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spk03: Good morning everyone and welcome to Capstar Financial Holdings second quarter 2022 earnings conference call. Hosting the call today from Capstar are Tim Scholes, President and Chief Executive Officer, Mike Fowler, Chief Financial Officer, and Chris Tietz, Chief Credit Policy Officer. Please note that today's call is being recorded. Replay of the call and earnings release and presentation materials will be available on the investor page of the company's website at capstar.com. During this presentation, we may make comments which constitute forward-looking statements within the meaning of the federal securities laws. All forward-looking statements are subject to risk and uncertainties and other factors that may cause the actual results and the performance or achievements of Capstar to differ materially from those expressed or implied by such forward-looking statements. Listeners are cautioned to not place undue reliance on forward-looking statements. A more detailed description of these and other risks, uncertainties, and factors are contained in CAPSAR's public filings with the Securities and Exchange Commission, except as otherwise required by applicable law. CAPSAR disclaims any obligation to update or revise any forward-looking statements made during this presentation. We would also refer you to page two of the presentation's rights for disclaimers regarding forward-looking statements non-GAAP financial measures and other information. With that, I will now turn the presentation over to Tim Schools, CAPSTAR's President and Chief Executive Officer.
spk09: Good morning and thank you for participating on our call. We appreciate your interest in CAPSTAR and I ask you to bear with us this morning. The vendor, Victor, here, we changed our software and so this will be the first time we're using it this quarter so be patient with us as we navigate this new software challenging to adopt it on an earnings call. Today we're excited to be speaking with you from Asheville, North Carolina where it started off in the cool 60s this morning. I think it's going to be 100 in Nashville today so it's nice to be here and this is where we announced last week we'll be opening a new office. It's an outstanding and healthy growing market. It also is one we're very familiar with. It's lost 12 community banks since 2008 and is often served out of Charlotte. We feel it presents Capstar a tremendous opportunity as with Chattanooga and Knoxville investments. I'll provide some highlights to these shortly. In the second quarter, we reported 45 cents per share, pre-tax, pre-provisioned assets of 170, and a return on tangible common equity of 12.7%. I'm particularly proud of our results as they demonstrate the strengthening of the core bank, which for today's purposes I'm defining as excluding our mortgage, SBA, and tri-net businesses. Due to the headwinds I communicated for these businesses last quarter and the since rapidly changing market conditions, the second quarter net contribution of these three businesses was minimal. This is meaningful as the core bank essentially earned about $1.80 per share annualized, which I believe would be a record. This positions Capstar very well when you incorporate the underlying growth opportunity of Nashville and our community markets, the expense we have embedded in our recent Chattanooga, Knoxville, and now Asheville investments, and what our mortgage and tri-net business historically have provided in a more stabilized market environment and the potential we believe is in our SBA business. The underlying four key drivers of our company are performing very well. First, year-over-year revenue growth, excluding our specialty banking businesses and PPP, increased 13% led by a healthy increase in loans. Our net interest margin expanded 44 basis points from the prior quarter, largely due to a favorable change in earning asset mix and an increase in market rates. Third, our productivity management is outstanding, with core banking expenses down 1.5% year over year, aiding our overall efficiency ratio, which now stands at 56%. In combination with the revenue growth I mentioned previously, year-over-year core bank free tax pre-provision growth was 38%. And lastly, credit quality remains outstanding, where past dues reach their second consecutive record of 12 basis points and charge-offs remain low. Importantly, you have seen thoughtful and balanced capital allocation discipline with the announcement of three de novo expansion markets over the past two years to include Asheville and further expansion of Chattanooga this quarter. The paying of an increased dividend as well as share repurchases. Before turning it over to Mike to cover the highlights of our key trends, I'd like to discuss the progress of our recent new market investments. If you'll please turn to page five of this morning's presentation, you'll see the targets we've established for each expansion market and the early results of Chattanooga and Knoxville. This is new for us, so we're still learning and refining. Needless to say, we're pleased with our progress to date. I find slides six and seven to be the most meaningful in today's deck. It shows the transformation that is occurring at Capstar as well as the opportunity. Over the past three years, our team has significantly increased the franchise value of Capstar from a footprint and performance standpoint. We are now in four of the Southeast's most dynamic markets, have improved efficiency, profitability, and earnings, and our year-to-date one-year, three-year, and five-year total shareholder returns were greater than industry and local peer performance. I'll let you read through the commentary on Asheville and our continued Chattanooga investments and move forward to pages 13 and 14. Here, we have attempted to provide some thought of what the potential of these recent investments could be. Obviously, there are many variables that could make these results better or worse. In second quarter, our current Chattanooga and Knoxville investments contributed a positive one cent per share. On page 13, we've listed what their future incremental contribution might be under stable market conditions and if we execute at the level we aspire. Similarly, page 14 shows the same for Asheville in our newest Chattanooga investments. As we all know, de novos come with front-end startup costs but provide the opportunity for significant future accretion if successful. What is so exciting is there are many other aspects of Capstar which should also increase their contribution during these periods. Mike, if you'd please now cover the financial highlights of the quarter.
spk08: All right, thank you, Tim. Good morning, everyone. On page 17, a few highlights. As Tim noticed, we feel we had a very strong performance in our core banking markets, offsetting near-term headwinds in our specialty fee businesses. Our net interest margin of 341 in the second quarter was up 44 basis points from the first quarter. Our efficiency ratio of 56.3%. is an improvement of 2.4% versus last quarter. Our pre-tax pre-provision of 1.7% of assets is also an improvement of nine basis points versus last quarter. In terms of growth categories, our assets, and we'll talk more about this in discussing the margin in a minute, but despite very, very strong loan growth again this quarter, Our assets are effectively unchanged as this was a continuation of deploying our excess liquidity into higher yielding loans. Tangible book value per share is down 2% from last year. However, an issue discussed throughout the industry, if you exclude the OCI impact of higher unrealized securities losses, Due to the general increase in market interest rates, tangible book value per share is up 2.1% versus last quarter and is up 13.1% versus last year, reflecting ongoing solid profitability. And as Tim noted, credit metrics remain very strong and capital remains very strong. We continue to have capital above our peers. On page 18, you can see the drivers of the 44 basis point increase in net interest margin for the quarter. Essentially, as I noted a second ago, remixing the balance sheet, deploying excess liquidity into loans, and number two, the benefit of the Fed's rate hikes to date, 150 basis points since March. Net interest income was 24.4 million. an increase of 3.3 million versus last quarter, again, with no increase in earning assets. Our cash declined from 11.2% of assets last quarter and 14% a year ago to 3.7% on average for the current quarter. In terms of the NIM and the NINUSHIS income outlook, We have seen as expected and consistent with past cycles of rising rates, as the Fed moves deeper into rate hiking cycle, deposit betas or pricing rates are increasing. And we have seen that to some extent in the last month. But a strong long pipeline continues. And our production provides opportunity for continued interest income growth. Another thing you hear in the industry, we do expect some loan pricing tailwind as competitive pricing responds to the dramatic increases we had seen earlier this year when some of our competitors have lagged their increases in response to market rate increases. We've seen some evidence of that, of some catching up. and we do expect some tailwind on that front going forward. From an interest rate risk perspective, as we've said in the past, we are targeting to be positioned fairly risk neutral. Our net interest margin could continue to benefit and we expect it will modestly from further rate hikes. However, a potential modest decline could occur in a flattening scenario, which is certainly not unlikely. On page 19, regarding deposit costs, our deposits declined $40 million during the quarter, driven primarily by correspondent bank activity. Not surprisingly, as our bank customers are deploying their excess liquidity into loans as well, and they could be facing some deposit outflows. So not surprising to us that we've seen some modest decline in our correspondent bank balances. Outside of correspondent banking, we certainly have seen some instances of deposits leaving, but in total, our other deposits have been, in the aggregate, fairly stable. The deposit costs for this quarter was an average of 23 basis points or four basis points increase versus last quarter. As many of our peers are doing, we're striving in this rate environment to maintain discipline pricing on both sides of the balance sheet. But in terms of this slide, discipline pricing on the deposit side, as the Fed continues to raise short-term rates, We certainly focus on optimizing profitability while ensuring we remain competitive through a combination of specials and new products and competitive pricing on our standard products designed to retain and attract core profitable relationships.
spk10: On page 20, our average loan growth
spk08: in terms of loans held for investment was 19.8% excluding PPP and a transfer of $106 million of tri-net loans, which we'll talk more about in a minute, from held for sale to held for investment. End of period, the growth was 16.9%. PPP at this point is really gone. We're down to less than a million dollars at the end of the quarter in terms of PPP loans. We continue to have very strong production. In the quarter, we had production of 217 million, which represents an annualized number of 870 million. And you can see the history there. That represents a continuation of focus on consistent organic production And as you've heard Tim say in the past, while we certainly focus on production, we're focusing on profitable production. Commercial loan pipeline remains very strong, currently exceeds $500 million, with strong contribution across all markets. In the quarter, our average loan yields increased 28 basis points versus last quarter, 22 basis points due to loan coupon, 11 basis points actually due to a correction last quarter which we discussed on the call of deferred cost deferred loan origination costs a pricing achieved a match funded spread in a quarter at the time of funding of 170 basis points as you've heard us say in the past we target 200 and up, target an average of about 250 over a match-funded federal home loan bank curve. This quarter, we have seen some pricing pressure, but some of that 170 represents, well, A, originations lower than targeted spread given lagged competitor response to market rates. As we said in the last quarter, We continue to have a lot of discussion with the line and our markets. We try to maintain discipline in our pricing. We certainly have some degree of flexibility for important relationships and important transactions. The other thing in that number, though, is where we do give rate locks and we have tightened those up, we're giving them less often, we're giving them for shorter periods of time. But the 170 represents the match spread between the rate on the loan, a fixed rate loan, and match funded cost of funds as of the time of funding. In many cases, that spread was wider when the rate was actually committed to the customer. On page 21, talk about non-interest income. As Tim said, this is an area where we certainly have some specialty fee businesses that have been very important in the past and we believe will continue to be very important over time, but we're seeing some headwinds. We continue to see growth in core bank deposit service charge and internet and debit transaction fees, but we're seeing headwinds in mortgage related to both volumes, obviously with mortgage rates up sharply this year, refinance activity has dried up as it has for the industry. We're also seeing as a result of lower volumes consistent with prior cycles, we have seen some compression and spreads. And we are also facing in our markets, which are very strong housing markets, very strong demographics, as Tim touched on earlier, but we are seeing, which is not uncommon in the industry, limited housing supply, which is also impacting our mortgage originations. TRINET had a fair value mark of $185,000 due to the adverse impact of rapidly rising interest rates That was partially offset by modest gains on sale of other loans. Our other income was down for the quarter, and that is primarily due to a one-time BOLI debt benefit last quarter of $860,000. If we go to the next page, 2022, we wanted to give you a little more color on TRINET. TriNet, as many of you know, is a business that generates interest and fee income by originating and selling high quality homogeneous fixed rate commercial real estate loans for properties on long term triple net leases to national tenants. TriNet began more than 10 years ago at another institution The leader of that business was recruited to Capstar in 2016, and since that business was launched at Capstar in late 2016, it has generated more than $25 million of cumulative revenue with no credit losses. Due to an average origination to sales cycle of about 10 weeks, Trinet has never operated with an intracrate risk program. It's used business leverage to manage that market risk. And it has not been materially impacted by rate movements in past rate cycles. However, recent events, we've seen a dramatic increase in market rates in the second quarter causing Trinet originations, values to decline, The rapid increase in market rates, in addition to reducing the value of client loans, it also caused a decline in the demand for these loans. So we have seen investors pause. We believe largely due to the uncertainty in terms of where longer-term rates are headed. As I noted on the last slide, in the second quarter, we did transfer $107 million of tri-net loans from held for sale and to held for investment. In terms of the outlook, we have paused further originations at this time. We have approximately 100 million of additional loans in process or loans that are held for sale that have a potential unrealized or realized loss. In combination with the recent reduction in demand, we are evaluating the market to sell these loans We might consider placing them into helper investment, which could come at a realized or unrealized loss. We are pursuing hedging strategies to mitigate market risk in the future and will only restart originations when we see clear indications of market stabilization and liquidity normalization. On page 23, non-interest expenses. Continue to have strong expense discipline with a productivity mindset across the organization. Total expenses are down 700,000 versus the last quarter. Our efficiency ratio, as I noted earlier, 56.3%, down more than 2% from last quarter. Significant part of that driver is salary and benefits. which were down $1.1 million for the quarter due, number one, to increased deferred costs associated with loan growth with new loan originations, as well as a Q1 severance and retirement expense of $385,000. And number three, lower mortgage incentive accruals and benefit expense reflecting lower mortgage revenue. I'll now turn it over to Chris to discuss risk management.
spk07: Thank you, Mike. Moving to slide 25, as in the past, asset quality levels remain strong with continued improvement. Presented on this page, you see the evolution of events that could ultimately result in credit loss. That is, as losses emerge, the early warning indicators of loss are evidenced in increasing frequency and adverse classification. Both of these early indicators are trending favorably for us, and our losses are reflecting that trend over time. Relating to delinquencies, last quarter we told you that we were very pleased with record low past dues but aspired to continued improvement. We exceeded our expectations, achieving 12 basis points for June 30th, representing another new record low for us. Our credit and operations teams have done an outstanding job of bringing consistency to oversight and processing of payments, And after elevated results in past quarters, we are seeing the improvement evidence in the results. In addition, turning to criticizing classified asset levels, improvement from pandemic highs continue to be achieved. Our five-year average for special mention loans is approximately 1.6%, and we are currently at 0.77%. Our five-year average for substandard loans is approximately 1.5%. and we are currently at 1.35%. While we are near the five-year average of substandard loans, it should be noted that this subset of loans requires the longest period for resolution. As a result, the range over this five-year period is very narrow, with a low of 90 basis points and a high early in the pandemic of 239 basis points. Therefore, we are pleased with the current level of 1.35%. Needless to say, we are also proud of our continued low charge-off rate, which averages $81,000 over each of the last eight quarters. This reflects our strategic decision years ago to focus our attention on traditional community bank borrow profiles that are smaller and better secure. As a result, our losses, our net charge-offs this quarter are zero basis points representing $15,000 net. While our asset quality is outstanding, we remain diligent for uncertainty in the economy. This is represented by our commitment to robust, independent external loan reviews, expectation that our own internal credit administration process continues to work diligently towards early identification of borrower stresses and the appropriate rating of credits, and we are also in the process of completing our external annual stress test from a trusted vendor to gauge our preparation for an uncertain economy. One point of note, given the uncertainty of the current environment and in preparation for potential economic downturn, Kevin Lambert and his credit teams have identified borrowers in cyclical industries for additional scrutiny, and we are adjusting our underwriting guidelines and oversight accordingly in areas representing intrinsic risk profiles. Finally, turning to page 26, adhering to our methodology and balancing both low growth and favorable asset quality trends, We closed the quarter with an allowance for loan losses of 109 basis points factoring in our fair value marks on acquired loans. We feel this is an appropriate level and we are satisfied with the performance of our portfolio. With that, I will turn it over to Tim.
spk09: Thank you, Chris. As you can see, our teammates are performing at a high level and we continue to enhance the value of our franchise. We're striving to serve the financial needs of our customers in a more personal and responsive manner while managing our margins, expenses, and capital prudently. The inflationary and rate environment bring unique challenges which we are not immune to, but we do not believe them to be systemic and we remain focused on doing what we do well and doing our best to be strong risk managers. That concludes our presentation and we're happy to answer any questions. Once again, thank you for your time. in investing in Capstar. We appreciate your support.
spk03: To ask a question at this time, you will need to press star one on your telephone. Once again, that's star one. To ask a question, please send by or compile the Q&A roster. One moment for questions. Our first question will come from the line of Graham Dick from Piper Sandler. Your line is open.
spk11: Hey, good morning gentlemen. Sounds like a nice day in Nashville. Uh, so I just, I just wanted to start on, on trying that. So I saw obviously our positive production there and kind of just taking a step back to assess things, which obviously makes sense. Um, but I'm just kind of wondering if you have any foresight into when or what kind of environment it might take in order to return to the market here. Uh, and then also trying to understand what the revenue cadence might look like in that case. Um, I'm just wondering if you got, you might kind of like ease back into things a little bit rather than jumping all back in at once.
spk09: Yeah, this is Tim and I'll start first and then I'll ask Mike and or Chris to add anything they'd like to. It's obviously a great business. It's existed for some 10 to 15 years at a couple of banks with the same gentleman and he's been here for eight years. And, um, you know, the number actually is closer to 30 million. Um, of total revenue that is generated with no losses. Now, obviously, there's been operating expenses, but been very profitable and a capital generator for Capstar. And it's common sense, right? You're booking seven-year maturity loans that have maybe a 20-year amortization. And so those loans have always worked through in a 10-week period. Well, when rates move that fast in a short period, unexpectedly on a seven-year duration, the value goes down. So that's sort of the current situation. Hasn't really been an impact in the 12 to 15 years this business has been in business. So at this point, we believe in the business. And if you look at the history of Capstar, I certainly think the last two years are not the beacon to look to because it was the opposite, right? We really over-earned. But if you go back to 2018 and 19, like I said in first quarter, we believe in a more traditional rate environment, which there is not such a thing, but an environment unlike second quarter, we believe that the business development capabilities we have and our historical spreads that we could earn on or about $750,000 a quarter. that it could be a $3 million contributor. So we don't foresee that in this market. I'll let them expand more, but it's largely, you know, I don't want to say that this necessarily caught us off guard. I mean, I guess you could say that, but the program has not had an interest rate risk management program. So we certainly do not want to expose or create any more exposure that could be subject to rapid rates between now to the end of the year, where they're still calling for maybe another 150 basis points, even though these are valued more on the longer end of the curve. I think we just want to see rates stabilize some. And then the second issue is even if rates were stable, I think just with the uncertainty of the rates, the inflation, the potential recession, we've seen the traditional buyers pause a little bit and step back some. So even if we, even if rates stabilized and we booked them at where we thought were, you know, margins that could be sold for a profit, this is really meant to be a gain on sale. The inflation, the potential recession, we've seen the traditional buyers pause a little bit and step back some. So even if we, Even if rates stabilized and we booked them at where we thought were, you know, margins that could be sold for a profit. This is really meant to be a gain on sale off balance sheet business for Capstar. We don't want to, while we view it as valuable, we don't at the same time want to use up valuable liquidity. We've got, you know, great growth in Nashville and Chattanooga and Knoxville and Asheville. And we want to make sure we reserve our balance sheet for that. So I'm throwing a lot at you, but maybe I'll stop there and see if you have a further question or Chris or Mike could add anything.
spk11: No, that answered several of my questions altogether. My next one is really going to be on why don't you just balance sheet them, but it makes sense with the growth you're seeing elsewhere. So I guess just moving on to deposits, looked like they were down a little bit this quarter, obviously with the correspondent bank activity picking up a bit. Can you talk just a bit about your strategy on this side of things and how the newly added teams in Chattanooga and Asheville might play into that? And then also just generally what direction you see total balances heading in the near term?
spk09: Yeah, great question. I think that's exciting for us. You know, when I came in, We were growing the loan side. When I came in in 19, the five years before I got here, if you took out all shared national credits and all participations, we had grown loans 3% a year for the five years before. And now we're growing them 20% a year with no participations. So on the right side of the balance sheet, we need to crack that same code. And we're now 14 years old. When I came, we were 10 or 11. And loan capabilities come first. So this summer, we've had an active deposit strap. First of all, we started in the fall of 19 when I came. We changed the incentive plans. We did our products. We really got started. And then the pandemic came. And we had an inflow of deposits. So you sort of got comfortable. And actually, we changed the tone. And we said we need loans. We need to lend all those deposits out. And so I don't want you to think we're just starting. We really started in the fall of 19, but then we paused. And so we're back at it. We had, you know, I can't remember, April or May, we formed a deposit strategy committee and came up with a full five or six point plan on relooking at incentive plans, communication, products. We spoke to a lot of banks across the country that are high performing banks on what products are they doing and so forth. And, you know, at the end of the day, it's just gotta be execution. And we're really focusing on, um, and we don't want it to become talk or the quarter of the month. How do we become a deposit first bank? I mean, that in capital is the backbone of any bank. And so, um, you know, traditionally a lot of banks, uh, don't go after deposit only customers. They go after borrowers and see if they can get some deposits where you're always going to be, you know, you know, net looking for deposits. So I'd say that's the biggest thing, Graham, and we're excited about it. Obviously, when you bring on new markets, it's also easier for them to get loans. So I'm friends with Art Seaver and Justin Strickland, formerly of Southern First, and they've done a great job of organically going to new markets and emphasizing that they need to fund their own market. And that's our mantra, that we've got to hold them to it and we've got to execute it.
spk11: Okay. I guess, would you say that deposits, you would see them growing here in the back half of the year, or do you think that there might be some more of that correspondent bank activity that brings balances a little bit lower in the near term?
spk09: I think the whole industry, you're going to see some sideways to maybe down the next six months. I mean, it's going to be interesting. I looked at First Bank, Pinnacle, and Service First. I think all three of them deposits were down. Service First down $800 million. I think 15% annualized is what Mr. Broughton said. So we feel real pleased with our success. It's challenging and not for Capstar. You know, you've got depositors who have been getting zero to five basis points for the last several years and really a lot of the period back to 2008. So, you know, if they can get one to 2%, that's a lot. And so you finally have people shopping. and moving money around and wiring around. You've got some people investing in treasury bonds. You can get a one-year treasury bond today at 3.15 and one-year CDs at banks are 150. So you see, so it's an interesting market right now. Again, is it systemic and is it long-term? I don't think so. It is really a highly unusual, we've gone from an unusual pandemic environment where we were all wondering what's going on and now this inflationary environment. So I can't give you an answer because I don't know, but I can tell you we're working hard on it. I can tell you everything we've worked hard on, we've made progress, like the loans, like the past dues, like anything. And so we're going to work real hard. But I think for the industry, it's probably, I've seen some banks report, hey, we think we'll be up next quarter, we think we'll be up the next six months. We hope we are, but I think that's going to be a challenge. I think that at least through the end of the year, with rates going up and a lot of shopping, they could be slapped slightly down.
spk11: Okay, cool. I just got one more, if you don't mind. It's just on the expense side of things. I guess that bank-only expense guide excludes mortgage, SBA, and Trinet. Just trying to get to a total expense number going forward. Do you mind... just outlining what the typical efficiency ratios are on each of those specialty businesses, like maybe just SBA and Trinet more so than anything, not mortgages?
spk09: So we're throwing a lot of things at you. Our consolidated efficiency ratio is 56% this quarter. Somewhere in our materials, I think we report a bank-only efficiency ratio. That's what we historically report. That only excludes mortgage on that slide. Today in my verbal comments, when I was talking about the core bank earnings, I went ahead and took out Trinet and SBA in my comments. But on that expense slide, you're looking at that bank only efficiency ratio would only exclude mortgage. It would have everything in it. On our looking forward slide at the back, where we say bank only approximately 16 to 16 and a half per quarter. That is everything but mortgage, and it includes the new investments in Chattanooga II, or what we call Chattanooga II, and Asheville.
spk11: Okay, great. That answers the question perfectly. Thanks, Tim. Okay, thank you.
spk03: Thank you. And one more for our next question. Our next question comes from Kevin Fitzsimmons from DA Davidson. Your line is open.
spk09: Hey, good morning, everyone. I guess on the subject of deposits and margins, it's a pretty interesting shift in environment. Tim, I guess you've covered some of this already, but maybe from the angle of ability to grow NII and what the drivers are going to be for that. I think we've been coming off the past few years of an environment where it's been all balance sheet and the margins been compressing. And now we're shifting to the margins higher, but maybe the average balance sheet doesn't grow all that much because you guys with your markets, you probably continue to grow loans, but you got to fund that and, and, and cash is going down and deposit, you know, given what we're, what we've been talking about with deposits maybe securities is used, fund some of that loan growth. So I'm just curious how you view that ability and what those drivers are going to be to grow NII. And particularly, you seem like you went out of your way to make the point that the margin had a real outsized expanse in this quarter. So on that front, is the mix shift mostly played out? Like maybe your cash is getting to a point where that's, you know, we're probably shouldn't be expecting 44 basis points next quarter, but I know that's a lot, but just that kind of angle, if you can address, thanks. No, I think that's, I think that's dead on. We, we had, we did a great job. And so we certainly benefited from a modest amount of asset sensitivity, and then we benefited from a mix shift. And so you're very observant that, you know, when you measured our sensitivity before, cash would have been in that measurement, right, which has a good data. And now that's been put into a mix of variable and fixed rate loans. So you would anticipate lesser upside in the future on the margin. As far as growing, you know, we're calibrating what I think was already a terrific franchise. We got our loan capability size. We've gotten our expenses in line. We're managing our capital. And so, you know, again, as I just said, we identified early in 2019 the need to develop a deposit strategy, and with all of them coming in, you know, we didn't really continue working on that. So we've got this earning asset engine that is growing 20% a year. Actually, it would have been higher. We had a $10 million payoff or pay down the last day of the quarter, and we had a $5 million loan. that funded the next day, the first day of July. So it would have been 15 million higher, which the end of period would have been 20-some percent. So the last three quarters, we've done 20% annualized each quarter. So I answered sort of the margin expansion. We're going to work on deposit capabilities. I think we have a tremendous opportunity there. But how do you grow in the meantime? And I think it's going to be a balance of... you know, deposit capabilities coming online, maybe a modest reduction in securities. I don't know that they can go down that much more. And then I think you'll see as we build deposit capabilities, some introduction of CDs or broker CDs or some wholesale funding sources like FHLV, which, you know, if you get to the end game, My ideal bank, I'd love to have customer-funded loans and customer-funded deposits. We didn't start there on either side. You know, we at one point had 32% shared national credits and total participations were probably 45%. And on the other side, we had correspondent banking and we had really a lot, not a lot, I hate to say that, but we had a fair amount of hot money. And so we're transforming a balance sheet. So I see the funding coming from Increasing deposit capabilities. We've got a correspondent banking division, just like Mr. Broughton does at Service First. We're looking at expanding that. Even though some of those banks are using their liquidity, we could take share. There's some banks that are in the middle of selling right now that have correspondent banking departments, and some of those employees we're talking to. And then I think the introduction of some wholesale sources.
spk04: Okay. Thank you.
spk09: Um, and then on, on the new markets, particularly Asheville, I'm just, I know it's early, but, but that, you know, there's a lot of overlap in that market between, uh, TD and FHN. And I noticed, you know, that's where one of those is where you got your leader and then service first also stepped in recently to that market and got their leader from the other player. So I'm wondering, on the one hand, could that market ramp up faster given the overlap? But on the other hand, you've got a player like Service First stepping in at the same time. Is that a serious headwind? And then separately, I'm just curious what your thoughts are on, now that you've got those three markets in place, if you include Knoxville, in terms of new market expansions, where's your appetite for adding new ones? And I know in past conversations, you've said in theory, why not do these all day long? On the other hand, if we're going into an uncertain environment, you have to watch what inning each of these are in. So I'm just curious your updated thoughts on that. Thanks. Yeah, outstanding questions. First of all, service first is not in this market anymore. Service First hired someone from First Horizon in Charlotte, which is an hour and a half away. They are not operating in Asheville. That doesn't mean they may not come call up here, but they're not here. On the other question, I think that in life, you could always do a capital raise, which we're not going to do, but you have limited capital and you have limited deposits. As far as all day long, you have to do that within constraints of your balance sheet. I'm real pleased with our four markets right now. I would never say never, but I would say the next 18 to 24 months, Capstar, I'm really excited about page 13 and 14 in our slides. And I don't think that is hocus pocus stuff. I think that's reality. And so if we execute hard, I'm really focused on how do we bring that into earnings and how do we mature these four markets now? You know, Pinnacle has done such an outstanding job and it's just a terrific company. And, you know, they are definitely the leader in Nashville. And so how can we continue to improve our positioning against them and do a little better? And then in these other markets, Somebody called us, I don't want to say who, but one of the top three market share banks in Knoxville actually called us when we hired the team in Chattanooga in October and said, you just hired the number one team in all of Chattanooga. And that was a competitor. Well, the team we just hired is friends of theirs. It's also viewed as all-stars. So I think it's without question we've got the top team in Chattanooga. We've got 10 commercial bankers there. Got an outstanding team in Knoxville and now Asheville. So I think we have more than we need, and we will work the next 18 to 24 months to make those better. Got it. Thanks, Tim. Yeah, thank you.
spk02: Thank you. One more for our next question.
spk03: Our next question comes from Jennifer Dunbow from Truist. Your line is open.
spk12: Hey, this is Brandon King going for Jenny. How are you doing?
spk09: Hey, good morning.
spk12: Good morning. Good morning. I had a question on the correspondent banking. I know you mentioned as far as potential to take market share there, and that was kind of the source of the decline in deposits. But I'm wondering what percentage of deposits is correspondent banking today? Okay.
spk09: I don't have it right in front of me, but they generally run about, give or take, $250 million, give or take.
spk08: What's the balance like? Let me pull that up very quickly. I think the percent, let me check, I believe is about 15%, but hold on just a second. So they're at $340,000. And at $270,000.
spk06: So they're about $300 million right now.
spk08: Okay. Thank you. Okay.
spk12: That's helpful. And then I saw that there was some share repurchases in the quarter. I know obviously the priorities is internal investment and dividends and the share repurchase and then M&A. But with the incremental investment in the Asheville market, could we see a similar pace of share repurchases in 3Q or kind of? in the back half of this year?
spk09: I think that's an excellent question. And I certainly, you know, we were trying to buy, I don't know if we have our average price, we purchased that in there, but we were buying in the $19 range or something. And again, I want to do balanced and disciplined allocation. And I certainly think our price is attractive here. You know, if you look at $20.50 here, especially in light of if you look at the earnings trajectory. But I want to use that capital to grow my balance sheet. And I think if you look at an IRR, that's more valuable. So I wouldn't model really that same pace. You know, we'll be opportunistic if we feel that it's just such an attractive price that we ought to tow in. But as we've been communicating our priorities, and this is consistent with most investors I speak with that own our stock, is investing in our business, growing the company, dividend increases, and then buybacks at the right price. And as you know, we increased the dividend this past quarter from $0.06 to $0.10, and we paid that out for the first time. So great question, but I don't think that's something I would model on.
spk12: Okay. Thank you very much. That's all I had.
spk09: Okay. Have a great day.
spk02: Thank you. One moment for questions.
spk03: Our next question comes from Fetty Strickland from Janie. Your line is open.
spk06: Hey, good morning, guys. Just wanted to get a clarification on your guidance for SBA fees. Is it saying that the quarterly rate going forward should equal the first half of 22 total, meaning around $500,000 a quarter? Or do you mean that the rate in each quarter in the first half of 2022 is a good go-forward, meaning around $250,000?
spk09: Do you say that one more time?
spk06: Sure. I just want to get clarification on the SBAC. So is the guidance saying that the quarterly rate going forward should equal the first half total, which is around $500,000 in revenue? Or do you mean that the rate in each quarter in the second half should equal around $250,000 basically?
spk09: No, on SBA, and that's one, we have such high prospects, and I know we've talked about it before. We've demonstrated in a couple quarters we can do it. We're challenged on getting the consistency, and in speaking with our team, we thought last quarter, second quarter was going to be higher, and some of the transactions flowed over to this quarter, but they have communicated that they feel that this quarter will equal the total of the first half. So I don't have that right in front of me, but I believe that was 600,000 or so. So they believe that this quarter will, um, will be that, and that they can continue that going forward. Now that's not guidance, but that's the best information they're providing and really have been communicating and working with them and that they feel they can do it really communicating, you know, them, We feel we've got the capabilities to do 750 to a million a quarter. We just haven't been able to consistently do that. I also want to stand corrected. One of my teammates just showed me. I have not been aware of it. No one's mentioned it, but someone did show that I guess Service First in July also announced Asheville. So I'll look into that. I know I'd seen their Charlotte one, but had not seen Asheville.
spk06: Gotcha. And that was exactly what I was looking for in the SPAPs. Thanks. And then I know the potential for a special dividend was discussed at one point, just given your strong capital levels. I didn't see it in the deck this time. Is that still on the table, or have you decided to save that capital just with all these lift-out opportunities and potential regular dividend hikes?
spk09: No, that was just mentioned as hypothetical about how – you know, all the different options that a bank has. And I really was just talking about, you know, I think at the point I mentioned that, I was trying to explain that our core, you know, if you look at, like, I study service first a lot. In this quarter, I think their tangible common equity was 8.3% or something, and ours is 10.2%. You know, if we theoretically did a one-time dividend to take ours to 8.2%, Think what our return on changeable equity was already 12.7%. Think what it would be if we ran at service-first capital levels. So that was really sort of hypothetical that it's one of the many options, but we'd like to get there by actually investing in our business.
spk06: Got it. That makes sense. And then just one last one from me. Appreciate the detail from Chris on the proactive approach to the cyclical industries. the slides on classifieds declining and everything else. But I was just curious, anecdotally, are you seeing anything new from competitors, things they're doing that concerns you in terms of doing deals that don't make sense, maybe some strange terms of pricing? Just curious what's out there in your market.
spk09: Yeah. Well, like Chris said, I'd say, first of all, we've got great competitors. And, you I'm one that I was always taught you wish everybody to win, so I don't want to talk ill about any competitor. And I just say that in a rising rate environment, the main thing I'd say is we're seeing a lack of pricing discipline. And when I say that, I don't know, I don't want that to come across that I think they're being aggressive. But, you know, if you use any kind of funds transfer pricing methodology, to understand your true cost of funds. If you go, most banks would use the FHLV curve. If you go look at what a match term funding is, your base rate has gone up. So just like, you know, you look at the inflation in the world, just like people are passing along inflation costs, disciplined banks, if we all work together, should look that our base costs are going up and borrowers should pay more. And we're not necessarily seeing that from all banks, which makes it hard for you to maintain your discipline. I mean, you could totally turn your growth off. We heard yesterday, I don't want to say what bank, but a very high-performing, reputable bank is doing, Lee, is it five or seven years? Five-year, 20-year amortization commercial real estate loans at 4.25%. I don't have the FHLV curve pulled up, but I think if you pull that up, what's that going to be, Mike? Around 315? Okay, five years, about 340. So the base rate would be 340. That means that bank is doing loans at 100 basis points spread. We target a minimum of 200 and an average of 250 and have always gotten that. So I'll let Chris or Kevin speak about credit without mentioning specific banks, but I haven't really heard that. I think we've got good competitors with good underwriters. Right now, the biggest challenge is a lack of discipline on pricing. But Kevin or Chris, any comments on that?
spk07: Clearly, pricing is the first thing. And foremost, to a lesser extent, we will generally require more cash equity in transactions, particularly in the commercial real estate area than some competitors. But we're finding that generally in our markets, there's discipline in the equity requirements and the underwriting on many of these transactions. So pricing is number one. It's just absolutely number one, but we're still seeing rational competition, at least on structure and underwriting.
spk06: Got it. That's good to hear.
spk04: Appreciate the color, everybody, and thanks for taking my question.
spk02: Thank you. One moment for our next question. Our next question will come from Brett Rabotin from Hode Group.
spk03: Your line is open.
spk05: Hey, this is Taylor in place for Brett. Thanks for the comprehensive discussion so far and all the candor surrounding Trinet. For the pipeline, I see plus $500 million for commercial. What about the other loan segments and also sort of how does – it's obviously been strong and the trajectory is good. Like does this – line up with what you thought maybe a quarter or two ago, or has it exceeded or been below expectations in your view?
spk09: Yeah, great question. I would say it has exceeded it. It surprised us. You know, we all thought, hey, rates are going up. Is that going to really slow loan demand? And it's actually, they're growing and expanding. So I would say surprise. That is what we call our commercial pipeline. So that's our on balance sheet, core bank, market lending. Obviously does not consider business banking or consumer that comes through our branches because that's more instantaneous. And then the three units that I can think of that would have any material other pipelines would be the specialty businesses I'm referencing. So our mortgage divisions pipeline wouldn't be in there. Trinet's pipeline wouldn't be in there, nor our SBA unit, which we're really trying to increase their funnel so that we can get that up to the $750,000 a quarter. I'll let Chris comment on Trinet. As we just said, we've paused. So their pipeline is going to be zero. But maybe Chris could talk about the residential mortgage and the SBA pipeline.
spk07: Yeah. So first of all, Tyler, relating to the mortgage environment we're very proud of our mortgage operations which are primarily focused in Middle Tennessee and the Nashville market it's a strong residential market and I will say that the challenges that we've had there this year have not been volume the market is a little bit frothy in terms of activity levels there is a limited supply that is tending to calm down just a bit as it is in other markets. But we had similar volumes as we had budgeted, which are close to 2019 levels. But where we're challenged right now is in the interest rate environment. Fees are way down on the mortgage sales. So volume is good. We are postured as a top five underwriter and originator in the Middle Tennessee marketplace. And we think we're postured because our business model is primarily focused on purchase money transactions and not on refi transactions were postured to continue to perform well there, despite the crosswinds that we have on the gain on sale premium. In our government guaranteed world, we added to our business development team early in the year, and that is starting to yield benefits to us. and so that's part of where we see the accelerating contribution from that area and we continue to be focused on looking for additions to the business development unit as well you know one of the things that's interesting to me is that the servicing income which we don't report separately uh is has basically doubled each of the last three years and we look at that trend to continue But we also have the crosswind right now that on our gain on sale for the guaranteed portions, those gains are down 30% this year over where they were last year. So we're getting much less return on the same volume output. But we're going to stay as a steady producer in that, trying to increase that, invest in business development, and look forward to when the rates stabilize and the premiums return to previous levels.
spk05: Great. Thank you for all the detail. I guess maybe one more for me. You know, obviously credit quality is in great shape and not a surprise, especially given the market you operate in. I was just curious about the half million qualitative reserve for the current economic environment. Maybe you could educate me on like maybe the thinking there of, you know, if that's just the model telling you to do so or just, you know, looking at just general macro factors and being prudent there.
spk07: Yeah, we try to tie those Q factors to as quantitative a view or measurement point as we can. And yes, there are some things that are out there that would start going the other direction, and that's reflected in those considerations.
spk05: Well, thank you very much. Appreciate it.
spk02: Thank you. One moment for questions.
spk03: Our next question comes from the line of Catherine Miller from KBW. Your line is open. Catherine, your line is open.
spk01: Thanks. Can you hear me now?
spk03: Yes.
spk01: Okay, great. Hey, I just wanted to follow up on the loan growth. I mean, you've grown at a really nice pace the past couple of quarters, almost 30%, but your guide is still low to mid-double digit. It's just With all these new hires, is there any reason that the growth is pulling back or are you just kind of being conservative?
spk09: I'd say being conservative and make sure we could fund it. If anything, I think it could be 30%. I mean, it's amazing. I mean, we're doing, you know, the legacy bank, alcohol. When I got here, you heard me say the 3%, and I sort of asked, what's everybody's goal? And there was no goal. And so, um, just to be honest, we sort of got out of napkin and said, okay, our loans are at this number. We're not doing any more participations. We want it to grow 10%. If you take that number times 10% and you say the starting number is going to have principal pay down and amortization of 15%, what is that total dollar we need to do divided by four? And Chris, that number was what? $45 million. Everybody in the bank knows it's $45 million, Catherine. And so you could have gotten in the elevator and everybody would have said $45 million. And so we got the legacy bank to $45 million, which I would say was Nashville and Athens. And then we've added Chattanooga and Knoxville, and they're doing their own $45 or $50 million per quarter. So that's where we've sort of gotten to the hundred a quarter. And then you put Chattanooga two that we're calling it and Asheville on it. You know, so I think it certainly could be 20% plus, but you know, the most ideal situation is for your deposit line and your loan line to grow in parity over time. If you want to build a real high quality bank. So I think what we're talking about right now is our pipeline is so big, you know, let's, we, we now are in a position of strength. Let's be disciplined on what we do, and we don't want to run customers off, but let's really focus on the 200 basis point spreads and higher on the loan side. That may make it 15% instead of 20, or 15 instead of 22, and then work on the deposit side, and we think that will build a better bank. But I certainly think we have the capabilities that we could post in the 20 range plus of quality loans if we wanted to.
spk01: Great. Okay, yeah, that's super. And then on the expense side, too, it was interesting to me that your bank-level expenses are still the $16.5 million guide, which is not what you had last quarter, but we're adding on Asheville. So is it just safe to say that you're saving Asheville with savings from other places, or as that market builds, we could see that expense growth kind of move into next year?
spk09: Well, keep in mind, Asheville at this point is going to be two employees. So that's what that is. If we built a team like Chattanooga, there'd be more expenses coming, but, but that 16 to 16 and a half does have the four new people in Chattanooga and the two people in Asheville. So that does have the six new people. It's a balance. I mean, it is, it is, it's growing revenue, but we're looking, I mean, I just, And again, it's not anything with Capstar. Every bank I've been in, I could do a presentation on expense management at banks. It would blow your mind. And banks in general are not. There are some. Obviously, service first, their efficiency ratio is very mindful of expenses. National Commerce, where I was taught, was. I mean, I've been in banks with people had a multifunction printer device every five feet from a cube when you can walk 15 feet and get rid of a third of them. You've got software systems that people never use that are still on the books. It's amazing when you get into banks. And so, you know, there's a system right now we have, I'm not going to say which one, that is coming to end of life. And, you know, the vendor said, we'll give you a great special if you sign within 48 hours and pay us a quarter of a million dollars. I'm not joking. $250,000, we'll let you go on our new system. Well, we have options. We can go on somebody else's system for free. So you know what we told them. And so I gave Mike Fowler 10 banks that I think very highly of. Lake City Bank in Indiana, Five Star Bank in San Francisco, City Holdings, Skip in West Virginia. I gave him 10 banks and I said, call these 10 CFOs and ask what system they use on that system. And we got the name of five or six different systems and have interviewed them all. And we actually have found a system that we actually like better, that is priced better, and the salesperson that was at the first company that asked us to pay $250,000 is now at this new company and wants us to come there without paying the $250,000. So my point in sharing all that is not to get on that. You've got to manage it every day. And you've got to manage your expenses like you manage a pipeline in loan growth. The message internally, and everybody has to believe me, we don't want to be cheap. We don't want to work with the lights out and run on the rims. It's work frugal and run a company like you would your house. And so I'll just stop right there, but we're just doing a good job. Now that ends right. You know, you can't, you can't cut yourself to prosperity, but I do think there are opportunities to operate smarter and better and hire more productive people, and that is allowing us to add some people without having to add expense.
spk01: Got it. Very helpful. All right. Thanks so much for all the commentary this quarter.
spk07: Yep. Go Generals.
spk03: Thank you. Now I'm going to call it over to Tim Schools for any closing remarks.
spk09: So we just appreciate you calling in and we appreciate you following our company and hopefully you hear that we're actively managing and trying to make it better every day and increase the prospects for our employees and our shareholders and when there's challenging times during the pandemic with credit or we're facing right now in the interim with Trinet that we're on it and we're actively managing it and we're transparent in our communication. So we hope everybody has a great weekend and that you have as much fun as we're going to have in Asheville. Have a good day.
spk03: And this concludes today's conference call. Thank you for participating. You may now disconnect. Everyone have a good day.
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