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S&T Bancorp, Inc.
10/17/2024
Welcome to the S&T Bancor Third Quarter 2024 Conference Call. After management's remarks, there will be a question and answer session. Now I would like to turn the call over to Chief Financial Officer Mark Kochfar. Please go ahead.
Great. Thank you and good afternoon, everyone, and thank you for participating in today's earnings call. Before beginning the presentation, I want to take time to refer you to our statement about forward-looking statements and risk factors. This statement provides the cautionary language required by the Securities and Exchange Commission for forward-looking statements that may be included in this presentation. A copy of the Third Quarter 2024 earnings release, as well as this earnings supplement slide deck, can be obtained by clicking on the materials button in the lower right section of your screen. This will open up a panel on the right where you can download these items. You can also obtain a copy of these materials by visiting our investor relations website at stbancorp.com. With me today are Chris McComish, S&T's CEO, and Dave Antolick, S&T's President. I'd now like to turn the call and program over to Chris.
Mark, thank you and good afternoon, everyone. I'm going to begin my comments on page three. I'd like to welcome everybody to the call. I certainly appreciate the analysts being here with us today and we look forward to your questions. I also want to thank our employees, shareholders, and others listening in on the call. To our leadership team and employees, your commitment and engagement is what drives these financial results. And as I've said every quarter, these results are yours and you should be very proud. Our performance this quarter reflects our continued progress centered on S&T's people forward purpose and the connection of our purpose to our core drivers of performance. Our drivers of performance are centered on the health and growth of our customer deposit franchise, consistently solid credit quality, strong core profitability, all of which are underpinned by the talent and engagement level of our teams, which leads to the results we're going to speak to today. To sum it up, we have made strong progress on all of our performance drivers and in Q3, the continued growth of our deposit franchise and improving asset quality led the way to deliver very solid results for the quarter. Additionally, as you're aware, over the past few years, due to the results we've been able to deliver, we have been able to build a significant amount of capital. Our performance combined with our strong capital levels gives us real optimism as we head into the end of 2024 and into 2025. We're excited about our prospects for growth while delivering for our customer shareholders in the communities that we serve. Turning to the quarter, our $33 million in net income equated to 85 cents per share, down slightly from Q3. Our return metrics were, again, excellent with a .5% ROTCE, .35% ROA, and while our PPNR remained solid at 1.69%. It is important to note our PPNR was impacted by a little bit more than $2 million of securities losses that we proactively decision to help mitigate impacts of a future declining rate environment. Our net interest income showed growth in Q2, while our net interest margin at .82% declined slightly but remained very strong. Again, this is the direct result of another quarter of very solid customer deposit growth. Mark will provide more details on both our net interest income and our net interest margin in a few minutes. Asset quality continues to improve as we have another quarter of declining slash improving ACL, and Dave is going to dive more deeply here in a few minutes. He's also going to touch on the pickup we are seeing in our loan pipelines and activity. Moving to page 4, while loans did not grow during the quarter, it's a reflection of lower pipelines from earlier in the year combined with a higher level of payoffs. On the deposit side, customer deposit growth was more than $100 million in the quarter, producing over 5% growth annualized. While some mix shift continued, overall DDA balances remained very strong at 28% of total balances. The customer deposit growth allowed us to reduce wholesale and broker deposits and borrowings by $150 million combined, which will obviously have a positive impact on our future net interest margin. I'm going to stop right there and I'm going to turn it over to Dave and he can talk a little bit more about the loan book and credit quality, then Mark will provide more color on the income statement and capital. Following that, we'll have some questions and I look forward to answering them.
Dave, over to you. Yeah, wonderful. Continuing with the discussion of our balance sheet, particularly as it relates to loan balance activities, we did see a reduction in balances of nearly $25 million for the quarter. This was primarily the result of reduced commercial loan balances of $76 million. And in the commercial segment, production in Q3 was just slightly lower than what we saw on Q2. What really impacted the balance reduction were payoffs that increased by nearly 50% in the quarter. De-delevated payoff levels were driven by continued demand for multi-family loans in the permanent market, slightly lower CNI utilization rates, and payoffs in our CNI portfolio as we manage asset quality. It's very important to note that we do not anticipate this high level of commercial payoff activity in the coming quarter. During the quarter, we also experienced growth in all segments of consumer loans with the exception of construction. When looking more closely at Q3 activity, production was slower early in the quarter and much stronger in September. We expect this positive growth momentum to carry forward into Q4. Looking forward and in support of a return to loan growth in Q4, our total pipeline has increased by over 50%, quarter over quarter, primarily due to improved commercial both in the CRE and CNI spaces. We've also seen an increase in the consumer pipeline as customer activity shifts from purchase to home equity. If I can now direct your attention to page five of the presentation in order to discuss our asset quality results for the quarter. Starting with the allowance for credit losses, which declined by approximately $2 million, and moved from 1.38 to .36% of total loans. This reduction was a result of several factors, including a decline in our non-performing assets of $3 million. As you can see, non-performing assets remain low at $31.9 million or 41 basis points of total loans. We also saw further declines in our criticized and classified assets of almost 3% during the quarter. This represents the fourth consecutive quarter of reductions in criticized and classified loans, and they have reduced by 17% year to date and 31% year over year. Just as a reminder, these criticized and classified loans require higher levels of reserves. In addition, charge us for the quarter were in line with expectations at $2.1 million up from the previous quarter's $400,000 net recovery. Finally, we anticipate loan growth in Q4 to be in the low to -single-digit range, and we are targeting -single-digit loan growth for 2025. Now I'll turn the program over
to Mark. Mark Good day, thanks. Next slide, we have the third quarter net interest margin rate at 3.82%. That's down three basis points from the second quarter, while net interest income improved by $900,000 compared to last quarter, primarily due to an extra day. The impact of late September Fed rate decrease and the leading SOFR rate changes can be seen in the reduction of quarterly loan yield improvement to about one basis point in the third quarter compared to five to six basis points per quarter in the first half of the year. We're also still experiencing an increase in cost of funds in the third quarter. That's driven by deposit mix changes and continued upward repricing activity throughout most of the quarter. We did implement non-maturity deposit repricing in response to the Fed cut in late September, with CD rates being lowered earlier in the quarter. Strong customer deposit growth allowed for the reduction in more expensive broker CDs, $126 million. Wholesale borrowings are down $25 million. But this did not happen until very late in the quarter, so the third quarter should represent the peak in our cost of funds as we expect this to decline going forward as our liabilities reprice. So looking ahead, we expect an additional 10 to 12 basis points of net interest margin compression from here. That assumes another 50 basis points of rate cuts or 100 basis points of cuts in total in 2024. After that first 100 basis point cuts of cuts and as we move into 2025, we do expect to find an equilibrium net interest margin rate in the low 370s, and that should happen early in the year. We anticipate that level to hold even if rate cuts continue as the market expects throughout 2025. Support for that net interest margin stability, despite those further cuts, will come from favorable fixed and armed loan and securities repricings, our received fixed swap ladder beginning to mature, a very short duration CD portfolio that will reprice, and an improving ability to implement non-maturity rate cuts as rates move lower. Moving on to non-interest income, non-interest income decline in the third quarter by $1.4 million. Quarter over quarter variance is related to two main things, securities repositioning and our Visa class B1 shares. In the second quarter, we recognized a $3.2 million fair value adjustment in the Visa stock, and also repositioned about $49 million of securities taking a loss for approximately the same amount at $3.2 million. So these two actions netted to zero. In the third quarter, however, we executed another securities repositioning, also for about $48-49 million, but this time taking a loss of $2.2 million, but without an offset like we had in the second quarter. Our normal non-interest income run rate remains approximately $13-14 million per quarter. Related non-interest expenses on the next slide, we saw an increase of $1.8 million in the third quarter compared to the second. Two main things drove that. Salaries and benefits are higher due to increased incentive payout expectations due to our performance. And in the data processing line, that's higher due to some timing related to some technology investments. We expect run rates in expenses to be $54-55 million per quarter. Lastly, on capital, TCE ratio increased by 64 basis points this quarter. A little over half of that, 36 basis points, was due to AOCI improvement. Our TCE and regulated capitals, as Chris mentioned, position us very well for the environment and will enable us to take advantage of both organic and inorganic growth opportunities. Thanks very much. At this time, I'd like to turn the call back over to the operator to provide instructions for asking questions.
The floor is now open for questions. If you have any questions, please press star one on your phone. We ask that while asking your question, please pick up your phone and turn off speaker for enhanced audio quality. Please hold while we pull for questions. And your first question comes from the line of Daniel Tamayo with Raymond James. Please go ahead.
Thank you. Good afternoon, guys. Maybe first on credit where the story just continually gets better every quarter, seemingly for you guys. So that's certainly good news. But just curious now with MPAs down to the level they're at and net charge-offs seeming to slow, if you had updated thoughts on what would be kind of a more normalized or regular type of cadence for net charge-offs or provision, however we should think about it going forward.
Yeah, I think what you saw in the quarter would be closer to what I would call as normalized relative to the charge-off levels. What we're hoping to see relative to provisioning is as we return to loan growth that we would need to keep provision in place to support that loan growth. We do think there is still room for us to improve, though. I mentioned they criticize in classified assets. So I think about adversely classified assets generally, there's still room for improvement there for us. So the ACL level may move as a result of those continued improvements.
Okay. All right, terrific. And then I guess just a clarification for Mark on the net interest margin guidance. So you talked about a stabilization in the early 2025 in the, let's see here, the low 370s, even assuming further rate cuts. So I'm just curious, I guess if we didn't get those rate cuts, does that mean that margin would expect it to stabilize higher or I guess then get down to the low 370s and rise from there? I'm just curious what the embedded impact from rate cuts would be within that forecast that you're giving.
Yeah, I mean a lot of the finer details is going to depend on the timing and on the competition. But if the Fed moves a lot slower, I would expect it to take potentially longer to get to that stabilization point and as you kind of alluded to, it probably would be slightly higher than the 370s that we're looking at now with a much deeper cut.
Okay, yeah, that makes sense. All right, well I'll step back. Thanks, guys. Thank you,
Tim. Your next question comes from the line of Kelly Mata with KBW. Please go ahead.
Hey, good afternoon. Thanks for the question. It sounds like the pipeline is really strong and you were impacted by some elevated payoffs and paydowns this quarter. I'm just wondering what gives you the confidence that that kind of headwind will slow and how should we be thinking about the potential risk that going forward with customers potentially looking to refi as rates come down?
Yeah, well as rates reduce, of course, customers will be looking at the potential to refinance. We do have rate protection in many of our loan products with prepayment penalties and make we're able to get ahead of those and understand when those maturities or rate changes occur and the bankers have proactive conversations relative to those and if we can get ahead of them, make sure that we understand what the impact is and what really what the customer desires and what's best for them. That's our focus. And then in terms of adding additional volume, we've seen some pretty good activity, as I mentioned, at the end of Q3 that carries into the beginning of Q4 here relative to new customer calling activities.
And Kelly, I think that this is criss, but part of what we're hearing a lot from customers is many of them have been waiting on the sidelines either in the CNI space for capital expenditures waiting to find out what's going to happen with the rate environment or some of our customers and having some better clarity around the direction of rates, I think is helping people be more confident to make decisions about future investment, which obviously leads to a bigger pipeline for us. So it may not be, while it was a little unusual to see the level of payoffs, some of it, as Dave talked about, was credit related for us, continuing to focus on credit quality and returns. It also is going to help us. The pipeline coming in was lower in the year just simply because of what I would define as some uncertainty as to what people wanted to understand about the future.
Got it. That's helpful. Maybe a bit of a housekeeping question for the model. Just looking at the average balance sheet, it looks like interest-bearing cash was a bit elevated. Just wondering how we should be thinking about managing liquidity levels and the size of the balance sheet. Was that because Bloom-Cross was a little slower and you're expecting to deploy that as we look to Q4, just any color on managing the liquidity there and how you guys are looking to optimize that?
So on an average basis, we were a little bit high. I mentioned these brokered CDs that we paid off, and that happened at the very end of the quarter. So we knew that was coming and it was our intent to pay those off. So we let some of the cash levels build that was coming from our customer deposit growth so that we could pay those off and not replace them at the end of the quarter. On average, we did have a little bit higher cash, but I think it got to a more normal level if you looked at just the quarter end point.
Got it. That's really helpful. As we look ahead, you're just under $10 billion in assets. Just wondering if you have any updated thoughts on potentially crossing next year and how you guys are thinking about what potential levers you have to offset that initial hit from Durbin?
Yeah, and some of it obviously is timing associated with Durbin. As we've talked about before, Kelly, it's about -$7 million of initial impact. Normal loan growth, as we've talked about, in that -single-digit range would put us there sometime in 2025. I have really no concerns from the standpoint of will we be able to absorb the additional regulatory oversight we've been building for that over the course of the past couple of years. If you look, that's where a lot of, some of our expense growth has come in, enhancing all of our risk management, audit, compliance, BSA, AML, all of those areas that are critical to growing the franchise, whether we go over $10 billion or not. We recognize organically it's -$7 million. That's a big reason why we're so focused on things like our treasury management initiatives and deepening some other forms of income to offset some of that, as well as just expanding our customer base. It's not a huge hit for us. We made $33 million this quarter, so we're going to have to absorb it, but it's something that we'll be able to grow into. Then again, we believe that inorganic opportunities will present themselves, and we're preparing for that as well.
Got it. That's helpful. I'll step back. Thank you so much.
Thank you. Thanks, Ellie.
Your next question comes from the line of Manuel Navas with DA Davidson. Please go ahead.
Hey, I appreciate the NIMH outlook, but could you just dive a little bit deeper into some of the assumptions there? You talked about some swaps. I'm interested in what you're assuming on loan and deposit betas. Initially, it may be through the cycle. Just any extra color you could add there as you build that 10 to 12-base point decline into next year. It's not immediate, but just any extra color there would be really helpful.
Okay. Overall, when we talk about the full 24 and 25, we're looking at an aggregate 200-base point drop is what we're modeling. That seems to be somewhat of a consensus from the market and the Fed. Going from the 550 to the 3.5, so that's kind of our baseline Fed piece. The declines that we have in the core rates, a lot of those are coming from how we're addressing the exception pricing book that we have. Our goal there is to, as we go deeper into the tranches, to make deeper and deeper cuts on those lower levels of deposits. For example, in this initial cut with the 50 basis points, we came close to the 50 basis points in the highest tranches, but there were some tranches lower that we didn't touch. The deeper that we go into the rate stack over time as rates get slower, the more balances we'll be able to impact. Then eventually, we should be able to also change some of the rates that we have on our non-exception book. With that improving over the course of the year, the other piece, the swap book that you mentioned, we have about a $500 million received fixed swap ladder that we built as rates began to rise. That starts to mature at the pace of about $50 million per quarter starting in the first quarter. We're underwater on those, anywhere from 200 to 300 basis points. As those mature, if we let those fully go, that will also provide some margin support that will show up really in the loan line versus in the deposit space. Then we also have the CD book that we've intentionally over the course of this past year have priced very short like many others. We've already repriced that lower starting early September, late August. Most of those are going into the six-month area. Over the course of the year, we expect to get a couple of price decline attempts out of those. Then on the securities, both securities and the fixed loans, based on where those are repricing, there's still better rates with those being put on at newer rates or at the current rate levels versus what they're maturing at. I can't tell you the exact betas because the betas are going to change over the course of that year. They're going to be a little bit different going into the cycle and then improve as we are able to implement more of those deposit rate changes later in 2025.
That's really helpful color. How should I think about end of period deposit costs this quarter? And you're saying this is the peak, so you're already expecting with the exception pricing moves you've made to pop the cost of decline next quarter.
Right. Yeah. With the Fed moving so late in September, we moved within a few days after that, but really didn't see much of an impact. The bulk of the momentum going for the quarter happened in July, August, the first part of September. We still continue to see the mixed changes and continued exception pricing. When we look at spot rates, our spot rates as of September 30th were down already from that month-end average. We know we're going to have a better cost of funds, cost of deposits in the fourth quarter for sure.
Is your deposit strength potentially a wild card here that could even help them more? Could you just talk about your success in deposit flows and where that could go going forward?
Yeah, we think so. There's a lot of emphasis being placed on that, both on the business side, commercial side, and also on the consumer side. We still have about $375 million of wholesale borrowings that are also very short and relatively high priced that we can pick up some advantage if we're able to replace those with a decent mix of customer deposits.
It's Chris, and this is more anecdotal than anything, but the good news is with rates are above the fold from a standpoint of what's being talked about in the marketplace as a whole. That leads to more customer conversations, both with existing customers as well as prospective customers. We feel very good about, obviously, the progress that we've made and the infrastructure that we've built in order to continue this. I think changing rates lead to customer conversations, and that's a good thing.
That's good color. Can I switch over to fees for a moment? If you have 200 basis points and cuts, what could that do on the fee side for you?
Next, Chris. This year, I think we're re-looking and repositioning our mortgage business. We've really been portalling most of that activity, but we're getting ready to make a concerted effort to sell more of that production going into the next year. That's probably our biggest interest rate-related ability or potential on the fee side is right now. The only mortgage activity we're seeing right now is just the fees from the servicing side, but there's an opportunity as we shift some of that production to sales that we would pick up, possibly a couple million dollars next year of fee income.
Do you feel like you have the right capacity, or is that part of the adjustments you're going to make? You might have to make some hires. How do you compare your capacity versus where you were three years ago, for example?
I think from a capacity standpoint, it's similar in terms of origination. We haven't been selling a lot, so some of the back office functions need to be reset to make that process smoother.
It's not a dramatic lift. The only thing that could is, and if you're talking specifically about mortgages, is if mortgage rates decline rapidly and there becomes a big refi boom, that could create capacity issues, not only for us, but everybody in the industry, because we're at a much lower run rate than we were three years ago when the refi activity was really high.
Then I appreciate that color. We could be going in that direction. Going back to a comment about inorganic growth, what are some places that you're interested in growing and where are opportunities that you would be excited to geographically?
We've talked about this before, but I'll continue to reiterate it. We look at our core geographic today is the southern half of Pennsylvania, east to west, and into northeast Ohio and central Ohio. Those are all really, really attractive markets for us. We also have lots of interest throughout the state of Ohio into that area of the Midwest, and then further south into Maryland, northern Virginia, D.C., those areas geographically. If you think about it, from Pittsburgh to Washington, D.C., is not that far. It's not as far as it is to get all the way to Philadelphia, for example. We think about markets, the makeup of markets relative to our culture and what we're trying to build. There's interesting opportunities both east and west, as well as here in western Pennsylvania. So we continue to build relationships, and the best way that we can build relationships from an inorganic standpoint is to deliver performance and have the currency necessary to have these conversations. That's where we're focused.
Thank you very much. I'll step back into the queue.
Your next question comes from the line of Matthew Brees with Stevens. Please go ahead.
Hey, good afternoon. Just a couple of questions. Most of them have been answered. First, just any, contemplating any additional securities restructurings? If so, maybe sense for how much, and is that included in any way, shape, or form into your 2025 NIMH outlook?
We're still looking at it. We're not anticipating anything significant, so we've done two, both of them just under $50 million. It would certainly be less than that. The opportunities with the shape of the curve changing a little bit, and just what we've sold already is kind of being the best candidate. The cost benefit of the activity is less than it was. So if we were to do anything more, it wouldn't be any larger than the ones we've already done, and there's a fair chance we wouldn't do any more.
Remind us again what the yield pickup was on both of those restructurings.
The first one was about 370 basis points. The second one was maybe
270. The other topic I just wanted to touch on, and it's been brought up a handful of times on the call, is just payoff activity, commercial estate, multifamily related. How much of that was by design, meaning these were non-strategic or full relationship type customers? How much of it was rate driven? One thing we've been hearing a lot of this quarter is that there's been some stiffer competition on the commercial world estate front from insurance companies, some of the agencies, some of the bigger banks even. So I wanted to get a sense for how much of that was going on, and how different the types of rate offerings were between yourselves and some of the players.
Sure. To your point, there is still a significant amount of competition relative to these permanent mortgages for multifamily. We had two relatively large $20 million range deals that paid off during Q3. They're both with existing customers. They're not transactional deals, just normal course of business where we do a construction loan. That construction loan converts to a permanent loan on a bridge basis typically to get to permanent financing. So in both of these cases, it is the normal course that they would take these to a permanent facility. Normally the reason that that's done is to take advantage of a longer term fixed rate, typically a 10 year rate, and remove recourse. The second being the most important. So these large builders and developers want to preserve equity in their deal, have it owned in a single asset entity, and not have recourse back to the sponsorship. Those are things that would fall of our credit risk appetite. So we view that as, again, sort of normal course of business for these types of transactions.
Got it. Was there any meaningful delta between yourselves and other sources, other competition or other competitors?
From a structure perspective, LTVs are generally similar. Rates may be slightly more aggressive depending on if it's an insurance company or a CNBS. Insurance companies are looking for assets that tend to be a little more aggressive. But the big difference in structure is the recourse. We require recourse even if it's limited after some point of stabilization. These facilities in the permanent market tend to be completely non-recourse.
And if you're talking about bank competitive pressures from a rated standpoint, I would say that any of that is more anecdotal, one-off driven, specific transaction than it is anything that we're seeing in the marketplace. We have seen in some areas of our geography, makes you scratch your head, we've seen some deals that were maybe, as you described, not necessarily long-term relationship deals that were actually taken out by large credit unions. That's an unusual place for a C&I or a commercial real estate customer of ours, but there are some pockets of the geography, particularly the eastern part of the state of Pennsylvania, where we're seeing some of that activity.
Yeah, I think, Matt, bottom line for us, relative to asset quality, I think it speaks well for that segment in our geographies. Those multifamily projects continue to perform very well. They can take advantage of the permanent market and we can continue to play a role as the depository institution for those borrowers and look at their ongoing construction needs.
Yeah, absolutely. Good for asset quality, but headwind to growth. Yeah, you got it.
That's why we have four drivers.
I appreciate all that very much. I'll step back. Thank you. Yeah, thanks, Matt.
Your next question comes from the line of Daniel Cardenas with Janny Montgomery Scott. Please go ahead.
Hey, good afternoon, guys. Hey, Dan. Just a couple of questions here for you all. In terms of your deposit growth outlook for 2025 on a percentage basis, do you think that can mirror what you're looking for on the lending side or are going to be a little bit better, just kind of given where the loan deposit ratio is right now?
Yeah, Dan, you know what? We feel good about the momentum that we have and the focus on our deposit franchise and deposit business. We've invested in it in people and product and improving processes. We're going to continue that focus. As I said, I think the rate environment leads to opportunities both with existing customers as well as new customers. We talk about the kind of declining rate environment that Mark's speaking to. That's going to put, as I would define it, there's a lot of money in motion. And so our targets are to continue to look for growth in the range that we're seeing.
Okay. And then given what capital levels are right now, what are your thoughts in terms of stock repurchase activities going forward?
Yeah, I mean, that's going to be our least favorite of loans, especially given the run-up in price. It just makes it a little more difficult for that to make economic sense. So our first priorities are going to be on the growth side and to use the capital that way.
The kind of growth dividends and then maybe buybacks if it makes sense mathematically. Right. Okay. And then just a housekeeping question. What was your AOCI number for the quarter? And the quarter was $77 million. Okay, great. All my other questions have been asked and answered. Thanks, guys. Okay, Dan. Thank you.
There are no further questions at this time. I would like to turn the call over to Chief Executive Officer Chris McComish for closing remarks.
Okay. Well, thanks everybody for the great questions and the dialogue. We really appreciate your engagement and your interest in our company. We look forward to being with you over the coming weeks and months. And let's have a great rest of the earnings season. Thank you. Bye-bye.
This does conclude today's call. You may now disconnect.