Third Coast Bancshares Inc (TCBX) 2022 Q4 法說會逐字稿

Greetings, and welcome to the Third Coast Bank Fourth Quarter and Full Year 2022 Earnings Conference Call. (Operator Instructions) As a reminder, this conference is being recorded. It is now my pleasure to introduce your host Natalie Hairston with Dennard Lascar, Investor Relations. Thank you, Natalie. You may begin.

Thank you, operator, and good morning, everyone. We appreciate you joining us for Third Coast Bancshares conference call and webcast to review our fourth quarter and fiscal year 2022 results. With me today is Bart Caraway, Chairman, President and Chief Executive Officer; John McWhorter, Chief Financial Officer; and Audrey Duncan, Chief Credit Officer. First, a few housekeeping items. There will be a replay of today's call, and it will be available by webcast on the Investors section of our website at ir.tcbssb.com. There will also be a telephonic replay available until February 3, 2023, and more information on how to access these replay features was included in yesterday's earnings release. Please note that the information reported on this call speaks only as of today, January 27, 2023, and therefore, you are advised that time-sensitive information may no longer be accurate as of the time of any replay listening or transcript reading.

In addition, the comments made by management during this conference call may contain forward-looking statements within the meaning of the United States federal securities laws. These forward-looking statements reflect the current views of management. However, various risks, uncertainties and contingencies could cause actual results, performance or achievements to differ materially from those expressed in the statements made by management. The listener or reader is encouraged to read the company's prospectus or the annual report on Form 10-K that was filed on March 17, 2022, to better understand those risks, uncertainties and contingencies. The comments made today will also include certain non-GAAP financial measures. Additional details and reconciliation to the most directly comparable GAAP financial measures are included in yesterday's earnings release, which can be found on the Third Coast website. Now I'd like to turn the call over to Third Coast Chairman and President and CEO, Mr. Bart Caraway. Bart?

Thanks, Natalie, and good morning, everyone. Thank you for joining us today. I'll begin by highlighting significant events for the full year and fourth quarter. John will then provide a more detailed financial review, and Audrey will give a credit update. Then before we take your questions, I'll return to discuss our outlook. Third Coast had a remarkable first full year as a public company. Throughout 2022, we were successful in executing the company's business strategy, both financially and operationally. Financially speaking, here are some highlights. Third Coast reported record-level growth of over 50% in gross loans, deposits and total assets during 2022 when compared to 2021. Specifically, gross loans increased to $3.1 billion, our best year yet. We believe the steps taken during 2022 to grow the loan portfolio have set up for a strong foundation for future periods. Deposits also reached record levels, increasing to $3.2 billion fueled by extremely strong business development efforts from our newly hired and existing lenders. And total assets grew to $3.8 billion despite the changing economic conditions and aggressive interest rate hikes.

Likewise, we reported excellent fourth quarter results. We exceeded internal expectations on net interest margin and return on assets and net income. Asset quality remains strong, demonstrated by overall excellent asset quality ratios and metrics. And we significantly increased liquidity at year-end with strong deposit growth. From an operational perspective, we successfully opened 4 new branch locations in Georgetown, Fort Worth, Kingwood and San Antonio, Texas, bringing our total to 16. The company added incredible big strength in operations, risk and compliance with the additions of Michael Dechert as Chief Operations Officer and Vicki Alexander as Chief Risk and Compliance Officer. And we promoted top talent internally with the promotion of Bill Bobbora to Chief Banking Officer. Together with other Third Coast leaders, the extensive experience and deep industry knowledge of our management team highlights the bank's ability to drive significant efficiencies as we continue to scale operations, compliance and commercial banking. The bank advanced its commitment to environmental, social and governance with campaigns geared towards e-statements adoption and sustainable corporate habits. Third Coast also commemorated Arbor Day by planting over 340 trees to honor each of our talented employees.

Finally, Third Coast furthered its commitment to diversity, equity and inclusion by providing unconscious bias training for managers and staff launching a women's and banking employee resource group and establishing the bank's Diversity Council. Third Coast 2022 performance is the direct result of the bank's talented staff and experienced leaders, each of whom are dedicated to and engaged in the company's strategic vision.

In addition to our employees, I'd like to take a moment to sincerely thank everyone involved with the bank's continued success, especially the bank's customers, investors, directors and management. Third Coast pledges to give future and existing clients, the personal service they deserve while assuring our commitment to maintain exceptional asset quality.

With that, I'll turn over the call to John for a more detailed financial review. John?

Thank you, Bart, and good morning, everyone. We provided the detailed financial tables in yesterday's earnings release. So today, I'll review select balance sheet and profitability metrics for the fourth quarter and the full year 2022. As Bart mentioned, we experienced strong loan growth in the fourth quarter and full year 2022. Gross loans increased to $3.1 billion at year-end, an increase of $135 million or 4.5% from $2.97 billion in the third quarter, and an increase of $1.04 billion or 50.2% from $2 billion in the fourth quarter of 2021.

Sequentially, our loan growth was well diversified with real estate loans up $72 million from September 30 and commercial loans of $29.7 million from the same period. On a full year basis, real estate loans were up $526 million and commercial loans were up $448 million. Deposits totaled $3.2 billion at year-end, representing a sequential increase of 8.4% from $2.98 billion, and an increase of 51% from $2.1 billion in the prior period. Net interest margin for the fourth quarter of 2022 was 3.75% compared to 3.77% for the third quarter of 2022. This better-than-expected performance resulted from continued asset sensitivity, improved mix and higher average quarterly noninterest-bearing balances. Net interest income totaled $32.2 million for the current quarter, an increase of 2.5% from $31.4 million for the third quarter of 2022. Accretion on purchased loans for the quarter declined $771,000 and loan fees for the quarter declined $104,000.

On a full year basis, net interest income totaled $116.5 million, an increase of 28.6% from $90.6 million in 2021. Noninterest income totaled $1.8 million in the fourth quarter compared to $2.5 million in the third quarter of 2022. Gains on sales of the guaranteed portion of SBA loans decreased sequentially from $729,000 to $123,000 for the fourth quarter. In addition, derivative fees decreased from $313,000 to $117,000 in the fourth quarter.

Noninterest expense totaled $22.6 million for the fourth quarter, down from $22.7 million in the third quarter. Declines in salary expenses were offset by increases in occupancy, legal and professional. The employee headcount increased 9% over the past year -- and in addition to the year-over-year increase in legal and professional fees related to increased costs associated with doing business as a public company as well as increased regulatory assessment expenses resulting from increased rates and total asset growth.

Net income totaled $7.5 million in the fourth quarter compared to $6.8 million in the third quarter. Dividends on Series A preferred stock totaled $1.4 million for the fourth quarter, due to the timing of closing of our preferred offering, we declared 2 dividends in the fourth quarter, 1 at the very beginning and 1 at the very end. As a result, we've picked up an extra 16 days for a little over $200,000, if not for this, fully diluted earnings per share would have rounded up to $0.45 per share.

On a full year basis, net income totaled $18.7 million in 2022 compared to $11.4 million in 2021, an increase of 64%. That completes the financial review. And at this point, I'll pass the call back to Audrey for our credit quality review.

Thank you, John, and good morning, everyone. Asset quality remains strong. Year-over-year nonperforming assets decreased by $5 million or 29% to $12.3 million as of December 31, 2022. For the fourth quarter of 2022, nonperforming assets increased $1.9 million from $10.3 million as of September 30, 2022. As of December 31, 2022, the nonperforming loans to loans held for investment ratio remained low at 0.39%, which increased slightly from 0.35% as of September 30, 2022, and decreased from 0.75% as of December 31, 2021. The provision for loan losses recorded for the fourth quarter of 2022 was $2 million and the allowance for loan and lease losses represents 0.98% of gross loans. During the 3 months ended December 31, 2022 and '21, net charge-offs were $708,000 and $2.4 million, respectively. On a full year basis, net charge-offs were $1.1 million and $2.6 million in 2022 and 2021, respectively. The annual net charge-off rate declined to 4 basis points for 2022 compared to 15 basis points for 2021. The bank has adopted CECL effective January 1, 2023. Due to the change in methodology, we have increased reserves by $4 million. Before Bart covers our outlook, I wanted to share some additional information about the diversity council that Bart mentioned earlier.

As a co-chair of the council, we plan to foster an environment of respect and acceptance as well as build awareness and education regarding diversity issues among other initiatives. Each of our council members brings diverse professional experiences that will support the group's mission. We're excited to launch this initiative, one that steers us towards becoming a more diverse company and a champion of equity.

With that, I'll turn the call back to Bart. Bart?

Thanks, Audrey. Turning to summarize. We entered 2023 with similar goals as 2022, to grow revenues faster than expenses and to maintain our strong credit culture. We will do this by focusing on key strategic priorities. First, we will continue our efforts in sourcing sustainable, low-cost deposits, while expanding and diversifying revenue streams. Throughout 2022, the bank made several strategic partnerships with digital partners, including Treasury Prime and Alloy Labs. We expect the foundation we built to offer these services in 2022 will come into focus during 2023 with the rollout of several new programs. Second, we remain focused on retaining and attracting new commercial and retail customers. The bank continues to make important investments in technology enhancements, such as improving the new account onboarding and customer experience.

We intend to leverage these innovative digital channels to not only improve the bank's ability to retain its excellent customer base, but also attract and acquire broader relationships. We are committed to identifying innovative ways to serve the needs of our customers, while facilitating cost savings through digital transaction migration. Third, we will continue to manage expenses and improve efficiencies that strengthen our company. We are pleased to report flat expenses over the last 3 quarters of 2022, even with our sizable growth, and we expect that expenses will remain relatively flat in the first quarter of 2023. At the same time, we continue to look for opportunities to control costs associated with our tremendous growth by streamlining and scaling business operations to further improve our efficiency ratio. We're not yet where we want to be in terms of efficiency in our execution and processes, but we're taking decisive actions to ensure we continuously improve over the next 12 months.

Finally, we will continue to be opportunistic in taking advantage of the strong markets across Texas, particularly in those markets we operate. We believe the strength of the Texas economy puts us in a better position to pursue potential growth opportunities. We are optimistic that our prudent business lending model and profitable business operating model will continue to thrive in 2023. Combined with our commitment to these strategic initiatives, we have an unwavering commitment to deliver disciplined fundamentals that drive solid loan originations, excellent credit quality and improved efficiency. We believe Third Coast is well positioned to deliver profitable growth in 2023 and beyond, ensuring safe and sound banking practices and focusing on generating superior customer and shareholder value. This concludes our prepared remarks. I would now like to turn it back to the operator to begin the question-and-answer session. Operator?

(Operator Instructions)

Our first question is from Bernard Von Gizycki with Deutsche Bank.

So I just wanted to dig into the NIM. It was better than expected. And John, you pointed to a few things. So obviously, the reported NIM was the 3.75%, it only declined (inaudible) points, which is better than your guidance. There was some excess loan accretion in 3Q. And I think on a core basis, that NIM was closer to 3.69%. So I was just wondering if you could just walk us through that improvement ex that accretion. And I know you mentioned a little bit less, I believe, accretion in this quarter. So I was just wondering if you could walk us through some of those components?

Yes, Bernie, it was just a really good quarter for the margin. It was somewhat unexpected. I mean some of the pressures that we still have continue to exist. We -- our cost of funds is going up, our deposit betas are high. But on the flip side, on the loan side, 79% of our loan portfolio is floating. So we are asset sensitive. I mean we've been saying that all year. And certainly, it proved true this quarter. And if you -- even though our period in noninterest-bearing demand deposits were down, our average quarterly demand was up. So it was a good quarter, all the way around. I mean our average loan-to-deposit ratio was a little bit higher quarter-over-quarter, but our spreads were good, our mix was good. And if you factor out the accretion from last quarter, the margin was actually up from last quarter. Certainly would not expect that again. We still have the same pressures that we did last quarter. So I'd certainly guide to a slightly lower margin than we are today.

Okay. Got it. So from 1Q, slightly lower margin. And then what are you assuming on Fed hikes or anything there for 1Q? Anything you can provide for the assumptions?

Yes. So 25 basis points next week. I mean we're just going by what the market is forecasting for this. 25 basis points this time and 25 basis points next time, we don't have anything else modeled in. But it's not going to have a huge effect on us. So if we're slightly asset sensitive and rates go up another 50 basis points or even 100 basis points, it should be a net positive that we don't explicitly have factored in.

Right. And then the lower NIM 2Q is more on -- maybe on the deposit pressure essentially being a little bit more than the asset side.

Correct.

Our next question is from Brad Milsaps with Piper Sandler.

You guys had still really good loan growth in the quarter, maybe slower than some of the recent trends. Bart, I was writing quickly during your comments. But just kind of curious if you guys could provide sort of what your appetite would be for loan growth in 2023, a lot of moving parts out there, but just wanted to kind of get some additional color on kind of what you think you can do this year?

Yes. I think maybe the best way to convey what we're looking at is kind of give you a full year picture. What we're targeting is $500 million in net loan growth for the year. And so like we told you before, it will be lumpy through the year. But we believe that $500 million in net loan growth, which is still pretty nice growth factor for us will bring us probably the best efficiency and the best ROA that we're looking at to still get to the 1% ROA by second half of the year. So for us, I think that is very manageable. We have a very strong team and a very strong pipeline. I would tell you, we are just more and more particular on the lending side from a risk return. I mean we could do a lot more volume if we wanted to, but we're really making sure that we manage the asset performance from an ROA standpoint. Does that help, Brad?

Yes. Yes, that's very good. And would you expect it to be kind of a similar mix in terms of variable rate versus fixed is kind of where the current portfolio stands? And I guess, how -- in what way do you plan to fund it? I know you guys have talked about a growing deposit pipeline in the past. But obviously, to get to bridge the gap in ROA, I would think you need to bring in some lower cost funding, which is a challenge for everybody in this environment?

Yes. So from the mix standpoint, I think for the next couple of quarters, it'll be very similar. I would say that the builder finance has slowed down and maybe we'll have a few payoffs in that area. But the corporate banking and the community banking still remains very robust. And so you'll see -- because the portfolio is large enough now, you're not going to see big swings on it. But you'll see a lot more probably on the C&I side grow, if anything. And in terms of covering the deposit side, we're starting to see some of the initiatives we're working through come to fruition. Again, we talked about from the deposit side that we have a multipronged approach. We're getting the entire bank involved from treasury and retail and community banking and all the specialty functions and we're starting to see that begin to grow. As a matter of fact, retail had a great last quarter where they contributed more than their historical percentage to the growth now. So we feel very comfortable with the $500 million in loan growth that we'll be able to support that with the deposit gathering.

Okay. Great. And remind me, maybe off on this, but do you guys adopt -- you guys adopted CECL this past January. I think that's correct, but I may be off there. Just curious if that's, in fact, correct. And if there's any changes that you expect.

We did. Yes, January 2023.

Yes, yes, January Yes, yes, this month, right. Just kind of curious, any -- if you could guys give us any color on maybe what that adoption revealed. Do you expect much -- many significant changes in reserve going forward. Just curious your thoughts around that.

Yes. So we added...

This is Audrey. Yes, we adopted it in January 1, 2023. We did a $4 million provision based on the new methodology. That was all based on the general reserves. And going forward, I don't see us doing any -- we did what we needed to comply, and I don't see any big changes to that. And again, it was not specific reserves. It was all based on the methodology and the new way of looking at general reserves.

Yes. And if I could add a little bit more color on that, Brad, is that it really came to the macro environment. That's where the reserves came in with it from -- our own portfolio seems to be holding very steady. We're very pleased with the quality of the loan portfolio. But with the national headwinds, macro environment, that does have an effect on [current] CECL, and that's where the onetime provision came in.

Our next question is from Michael Rose with Raymond James.

Sorry if I missed this. I hopped on a little bit late, but just wondering if you get kind of general thoughts for expenses. I think you might have said -- I might have heard this, you might have said kind of flattish for the year. Can you just tell us some of the puts and takes? I mean, obviously, there's inflation. You guys, I think, are still hiring as a growth company. There's higher FDIC costs. You have the fintech partnerships, I don't know if there's any incremental investment there. So just looking for some of the puts and takes as it relates to the expenses as we move into the first quarter and then through the year.

Sure. So Michael, what Bart said is that he thought expenses would be flat for this first quarter, not for the year. I wouldn't necessarily expect that. But if you think back over the last year, first year as a public company, we had increased insurance, increased legal, I mean we are growing fast. So our regulatory assessment were higher, just a lot of headwinds related to being a public company, and most of those are behind us. I mean we do have the everyday inflation that we all have to deal with. But we're squeezing things as much as we can everywhere we can, and the management team is committed to not spending money today until we get to a better profitability number. So this next quarter and hopefully, the second quarter 2, we think expenses are going to be relatively flat and that we're going to continue to grow. And that's really the same messaging we had all of last year is that we're going to grow revenues a lot faster than expenses, and we expect that to continue.

If I could offer a few more thoughts on that. We brought on a management team that are coming from much bigger banks that have seen ways that we can be even more efficient. We're still haven't gotten the full benefit of some of the technology that we're implementing, but that will happen over the year. So we're still fighting as John says, inflation. That's very difficult. Labor is expensive. Everything seems to go up some, but I think we've been very judicious with both adding resources and also looking at our operations and reconfiguring them and reengineering them to be more efficient. So I do believe that we do have a strong platform to continue to grow and that the pace of the expenses should be minimum compared to the pace of the revenue.

That's helpful. I appreciate the context and color there. Just moving back to deposits. A couple of quarters ago, you guys had some big outflows, the mix change. It looks like it's stabilized here around 15% DDA. I know there's some puts and takes. And last quarter, you kind of talked about a 95-ish percent loan-to-deposit ratio. Is that still kind of the context? And from a mix perspective, I mean, would you expect things to kind of stabilize here? Or is there may be some more degradation into the mix?

Yes. I would say, if anything, it will improve, Michael, if you think about over the last year, it's a lot easier to bring over loans and deposits. There is just a much longer lead time to bring deposits over. And we were working on deposits, I think, much sooner than most of our peers that -- everybody is working hard on deposits today. But I think we have a good head start. The next couple of quarters, I'm pretty optimistic about our deposit growth even on the demand side, I don't see that number getting worse by any stretch. And if a few things break our way, it could be a lot better.

Yes. I kind of echo that, that I'm pretty optimistic. We have a lot of areas where kind of relationship overlap technology that we're giving to get some very nice desirable customers, they are coming on board. Some with some fairly large noninterest-bearing accounts. But if nothing very good core accounts regardless one way or other. So we're seeing -- we're getting a few wins here and there that -- as that continues to build, I think it will help us change our deposit mix. And of course, we want to grow noninterest-bearing. That is our goal to do that and continue to grow core as fast as we can. But I'm starting to see some nice pipelines of deposits that are coming in. And so as John says, I do believe we have room for improvement, and we're going to start seeing those improvements despite the fact that it's probably one of the hardest times to raise deposits.

Helpful. And then maybe just finally for me. I feel like I ask this every quarter, but any updates on kind of the ROA target that's out there. I know it's a challenging environment. And just wanted to get any sort of updated color and thoughts there. Obviously, the flat expenses will help, but a slower pace of loan growth obviously is somewhat of a detractor too. So I just wanted to look for any updated thoughts you guys have.

Yes. I mean we're still targeting that 1% ROA in the second half of the year. And to get there, we need to improve 6 to 8 basis points a quarter. And I think we're on track to do that.

Yes. I feel good about it as well. I think it's -- for us, it's again a multiple-pronged approach for us. It's a little improvement in cost of funds, some more revenue growth and then keeping expenses low. I believe that, as we said 1.5 years ago where we think second half of this year, I think, is very achievable.

(Operator Instructions) Our next question is from Matt Olney with Stephens Inc.

Just a few follow-up modeling questions here. John, I think you mentioned the preferred dividend was a little bit elevated this quarter. Just remind me what the normal quarterly deferred dividend will be from here?

Yes. I think it's $1,197,000 a quarter, if I remember, right?

Okay. And then on FHLB, it looks like you had some advances in the average balances in the fourth quarter, but looking at the end of period, it looks like you may have paid these off. Is that right? And any more color on how much you plan to utilize FHLB in 2023?

We'll use it as we need it. At the end of the year, we didn't. We had good deposit growth, particularly in December. So we paid off all our borrowings. Any of our borrowings are going to be very short term, either overnight or maybe just for a week or 2. It depends on the lumpiness of our loan growth. As you can imagine, managing it over the last year. We knew we were going to grow loans fast. Deposits are harder to predict exactly when they're going to come in. So we have had to borrow from time to time, from the home loan bank to fund the loan growth, then we could see some of that this year, too. It just depends on how lumpy the loan growth is and -- but timing is playing too, right? So I mean, sometimes the deposits can be a little lumpy as well. I mean the home loan bank borrowings today are more expensive than anything else out there. So it's definitely our last choice.

Okay. And any color on the yields on some of the newer originations on the loan side?

Yes. So in the month of December, we booked about $113 million in new loans with a yield (inaudible) and that was before loan fees. So after fees, we're certainly averaging well into the 7s.

And then I may have missed this, but did you disclose what the accretion amount was in the fourth quarter? Or have any expectations of kind of what's remaining from here?

It was actually 0 and maybe even less than 0, I think we marked it up $9,000. So we had a net swing from the third quarter to the fourth of $771,000, I think, was the number and I would not expect much accretion going forward. We've recognized most of it. And what we do have left to recognize will be relatively immaterial and spread over a period of year. So there's just not much left here.

Okay. And I want to get Audrey some more airtime here on credits. Kind of what you're thinking about now with the Feds trying to slow the economy and put some more pressure on some of the borrowers out there. What loan categories or what kind of markets are you most focused on right now?

So we're -- well, fortunately, even with that, we're in a great state. So things are still really looking good here. We're still focusing on C&I growth, we're still well diversified so really not concerned with one particular area. I think as John said, the builder growth is going to probably slow a little bit. But things are still, from an asset quality perspective, looking good for us. I don't know, Bart, did you want to add anything there?

Yes. I mean, Matt, I guess what I'd add is that we tend to try to look ahead in our underwriting with it. And Audrey calls it recession protection. And essentially, what she's gone through is -- has an entire process where she kind of layers on top of that where the lenders have to answer what's the impact of a potential recession to any of our customers and some additional monitoring as well. So I think we've been in contact frequently with our customers and certainly in the underwriting side, she's added a few more questions and maybe a few more calculations that they have to do to make sure that we're in good shape. But thus far, even that more detailed enhanced due diligence that we're doing on it, our portfolio is in really good shape.

Yes. We're in the process of going through that process now. As Bart said, the recession some protection and looking at the portfolios kind of grading them, so to speak, high, medium and low risk for a protracted recession and contacting customers, getting updated projections, doing some additional stress testing of our loans. But to this point, not seeing anything that's greatly concerning.

Any migrations that you saw during the fourth quarter into special mention or classified?

No, our classifieds actually for the quarter really remain low. It's below 4%. And you probably noticed we had an increase in NPAs of $1.9 million. That was actually 5 loans that we placed on nonaccrual, the largest with an $800,000 SBA loans. So it's got a 75% guarantee. And then the other 4 were $300,000 average balance. So very, very granular there, not any big individual loans.

Our next question is from Brad Millsap with Piper Sandler.

Just wanted to point of clarity on the ROA target. I noticed in the release, you present the ROA excluding the preferred dividend. I was curious, is -- the 1% that you're talking about, should we think about that inclusive or exclusive of that preferred dividend that you guys have each quarter?

Yes, I was thinking of it exclusive.

1% ROA before the dividend. Okay. Makes sense. Okay. I just want to make sure I was on the same page.

Sure.

Thank you. There are no further questions at this time. I'd like to turn the floor back over to Mr. Caraway for any closing comments.

Thank you, Paul. Thank you all for joining us on the call and for your continued support of Third Coast Bancshares, and we look forward to speaking to you again next quarter. You all have a good weekend.

This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.