CapStar Financial Holdings, Inc.

Good morning everyone and welcome to Capstar Financial Holdings second quarter 2023 earnings conference call. Hosting the call today from Capstar are Tim Scholes, President and Chief Executive Officer, Mike Fowler, Chief Financial Officer, Chris Teets, Chief Banking Officer, and Kevin Lambert, Chief Credit Officer. Please note that today's call is being recorded. Replay of the call and the earnings release and presentation materials will be available on the investor relations page of the company's website at capstarbank.com. During the 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 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 not to place undue reliance on forward-looking statements. A more detailed description of these and other risks, uncertainties, and factors are contained in CAPSTAR's public filings with the Securities and Exchange Commission, except as otherwise required by applicable law. CAPSTAR disclaims any obligation to update or revise any forward-looking statements made during this presentation. We will also refer you to page two of the presentation slides 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.

Good morning and thank you for participating on our call. In the first quarter, we reported earnings per share of 37 cents and a return on equity of 8.95%. As you are aware, that return on equity is on very strong capital levels with our tangible equity capital ratio being 9.64% after having repurchased approximately 450,000 shares of common stock during the second quarter. We all more enjoy and wish for economically strong and stable operating environments. As you are aware, this is not one of those environments, and I could not be more proud of our team. While we demonstrated in 2020 through 2022 our ability to grow our balance sheet, operate profitable fee businesses, as well as improve our NIM and operating expense, the past year we have shown tremendous discipline in credit and liquidity management. This quarter we looked further and identified approximately 3 million of annualized expense reduction opportunities we have already begun to introduce and hope to achieve over the remainder of the year. Mike, Chris, and Kevin will provide more detail, but I would like to highlight a few points. First, we were early in our identification of the forthcoming deposit pressures on this same call last summer. Sharing the outlook was challenging while many banks stated they would grow deposits the second half. With that outlook and the prospects of a credit event, we curtailed investor property lending early last year. Second, we have progressed Capstar in so many ways. One of the areas that remains is funding as Capstar was largely built as an asset generator. If you study Capstar's historical funding, a high percentage was comprised of larger, high-cost money market accounts and correspondent banking. Our three community bank acquisitions have balanced our funding profile but deposits are still a tremendous opportunity for Capstar. Our team has done a great job this year fighting what everyone in the industry has been fighting. We have been working to retain customers and expand customers where there were concerns or we did not originally obtain deposits. On new deposits, the market has been intense, starting in the fall with normal spreads to wholesale alternatives, migrating in January to where banks began offering close to wholesale rates and subsequent to the termination of the first horizon deal where they disrupted the market by offering rates higher than wholesale alternatives. So liquidity has come at a cost in this environment, but our deposit stabilized in June and has continued in the third quarter to date. Additionally, our team has lifted our insured and collateralized deposit ratio to over 75% of total deposits from the low 60s at the beginning of this year. Third, we have outstanding fee businesses as we have previously exhibited. This environment, however, is not conducive to their historical performance or potential. Combined, we lost about $0.02 per share this quarter pre-tax. Well, that's after tax. I apologize. Among our mortgage and tri-net divisions. We could have shut them down and reported earnings per share of $0.39 per share. Looking pre-pandemic in 2019, these same two divisions contributed $0.05 per share per quarter. That is a $0.07 per share per quarter lift from the current second quarter level or an equivalent of $0.44 per share. Hence, these are very valuable businesses that we believe are an important part of Capstar's long-term franchise value and worth experiencing a small loss for in the short term. Fourth, Our expenses were essentially flat with first quarter as we had a small additional amount for the new stock buyback proposed tax related to the large amount of stock we repurchased in the second quarter. As I previously stated, we challenged our employees from the ground up, not top down, to seek expense reduction opportunities, which totaled about $3 million. We want to certainly always be looking for excess and better ways of doing things. However, we do not want to cut to the bone or impair our franchise. I hope we will begin to see these benefits in the third quarter. Fifth, we have an outstanding credit culture and our current metrics are outstanding as well. We have not done a participation of any type in three years and essentially lead nearly 100% of our relationships. Further, our loan review firm states our top 25 customer concentrations to capital are about half of the industry average. While current metrics are likely not sustainable long term, they are welcomed along with our strong capital levels in uncertain environments such as we are in. Lastly, we have been proactive in our capital management. Our dividend was increased again this year and is up 120% over the past four years. We also repurchased 453,833 shares this quarter. And over the past 18 months, have now repurchased about 1.5 million shares or about 7% of Capstar's total outstanding shares. In our newest authorization, we communicated capital targets. Personally, I believe our stock is cheap. Our tangible book value adjusted for AOCI is $16.95 per share. We have a small relative securities portfolio It is all held and available for sale. We have strong insured and collateralized deposit levels. We have ample liquidity. We have strong credit and we have strong capital. Therefore there is more opportunity to return capital essentially, excuse me, especially at our current stock price, but it is prudent to abide by these capital targets to be conservative at the moment. As you can see, a tremendous amount of hard work has and is being put in by our employees as we work to deliver an outstanding customer experience and strong shareholder results. I'll now turn it over to Mike.

Thank you, Tim, and good morning, everyone. I'll touch on a few key performance highlights starting on slide eight. As Tim noted, we continue to navigate through a very challenging operating industry for Capstar and the industry, mindful of near-term profitability while also maintaining a longer-term view regarding issues such as franchise value and retaining and attracting profitable customer relationships. We focus on four key drivers of profitability. First, We target annual revenue growth greater than 5%, which has been challenging in the current environment given headwinds for net interest margin and several key fee businesses. Second, we target a net interest margin of 3.6% or more. Chris will provide more color in a minute on both sides of the balance sheet, though I'll note that the NEM peaked at 350. In the third quarter of last year, and as we've seen throughout the industry, our margin has declined in recent quarters due to deposit pricing pressures. Falling to 3.06% in the current quarter. And we could see further modest downside in the next quarter or two. Number three. I would direct you to slide 16. We target an efficiency ratio of 55% or less. The second quarter ratio was 66.6%. We did achieve or were near our target for several quarters in 2022. Reaching our target again will require movement on both revenue and expenses. As Tim noted, we expect to see material improvement next quarter, having identified approximately $3 million of annualized expense reduction. With partial implementation in late June and the remainder expected to be implemented through the rest of 2023. We always strive for expense discipline. And in the current environment we will be, we will have very limited hiring. with an increased emphasis on improved efficiency. Fourth, we target annualized net charge-offs of less than 25 basis points. Kevin will review credit in a few minutes, though annualized net charge-offs of three basis points for the quarter remain unchanged from the prior quarter. Next, I'll shift to capital briefly on slide 17. As Tim noted, we maintain strong capital levels while continuing to execute a balanced strategy for deploying capital. Chris will comment shortly on how we're managing organic growth opportunity in the current environment. Second, we generally target a 20% to 30% dividend payout ratio. And in the second quarter, we announced a 10% dividend increase. Third, as Tim noticed, As Tim noted, we have purchased shares year-to-date through June $920,000. When in May we announced completing the $10 million buyback program and authorization of the new $20 million buyback program, as Tim noted, we announced our intent to maintain above industry capital levels with target tangible common equity of 8.5%. and target common equity Tier 1 ratios of 12%. Our TCE remains a solid 9.64%, despite 166 basis point drag from AOCI, and as Tim noted, 100% of our investment portfolio is classified as available for sale, so all unrealized losses are reflected in TCE. Balance sheet strength is always a top priority, both from the perspective of capital and liquidity, and especially in the current environment. A few brief slides on liquidity turning to slide five. We have 1.5 billion of on and off balance sheet liquidity sources. And our bankers have been very proactive with current and potential depositors discussing alternatives to maximize FDIC insurance in the wake of SB SVB in order to reduce the risk of runoff over safety concerns. As Tim noted a minute ago, you can see on the bottom left chart we have increased the percent of deposits. Which are either insured or collateralized from a strong 66%. as of Q1 up to 76% as of 6-30. I will now turn it over to Chris.