USCB Financial Holdings, Inc.

USCB Financial Holdings, Inc. Earnings Call. My name is Cheryl and I will be your operator for today's call. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session. If you'd like to ask a question, please press 01 on your touchtone phone. I will now turn the call over to Luis de la Aguilera, President and CEO, and Rob Anderson, CFO. Gentlemen, you may begin.

Good morning, and thank you for joining us for our second quarter 2022 earnings call. Today, I will review our Q2 highlights along with our CFO, Rob Anderson, and Chief Credit Officer, Ben Passos, providing an overview of the bank's performance, the highlights of which you can see on slide three. USDB Financial Holdings delivered solid second quarter results with robust double-digit annualized loan and deposit growth and an expanding net interest margin. At the same time, asset quality continued its sound and stable trend, and capital and liquidity remained strong, positioning us well for the future. Average deposits increased by $284.5 million, or 20%, compared to our second quarter 2021, underscoring our focus as a relationship-driven bank. Our staff is trained and incentive to develop fully bank relationships, and our banking centers, business development officers, and lenders consistently hit that mark. Total average loans excluding Triple P loans increased 102.3 million or 35% annualized compared to the prior quarter and 290 million or 29.3% compared to the second quarter of 2021. Over the past two years, we have added six new lenders to the production team while exiting others who were underperforming. The additions have been very accretive to an already talented team of lenders, and together, they have delivered strong results. Furthermore, the continued addition of new business lines, such as our SBA initiative, and most recently, our Yacht Lending product, which launched in January of this year, are providing greater portfolio diversity and growth opportunities. The bank's net income for the second quarter was 5.3 million, or 26 cents per diluted chair. ROAA was 1.08, ROAE was 11.38. Our NIM improved 15 basis points from the second quarter of 2021, increasing to 3.37%. Similarly, we posted an efficiency ratio of 55.34% for the second quarter of 2022. Our management team is committed to continue efforts to improve our efficiency by leveraging technology, and numerous initiatives are ongoing and planned. After much analysis this past month, we contracted to implement a new loan operating system powered by Abrego. When fully deployed early next year, we expect significant enhancements in our underwriting, closing, and funding processes, as well as the benefits by fully integrated LOS. To fully appreciate the dynamic trajectory of U.S. Century Bank, it is best to view performance trends in context. Slide four clearly details the trends of nine performance indicators showing the significant strides made since the bank's recapitalization in March 2015. The bank's progress over six and a half years from regulatory supervision to an IPO is indicative of the commitment of the board, the experience and capacity of the management team, the commitment of our staff, and the demand of the market. With that said, let me turn things back to Rob, who will lead us through the performance in greater detail.

Okay, thank you, Lou, and good morning, everyone. In looking at our financial statements, and by many measures, U.S. Century Bank had another great quarter. Let me highlight a few items on the next couple of pages before getting into specific details. First, total assets eclipsed $2.0 billion for the quarter. Loan balances are $1.373 billion, which is up $114 million from the prior quarter, and deposits are at $1.739 billion. At quarter end, we had 456 million in securities, and 117 million of those securities are classified as held to maturity or HTM to protect tangible book value in a rising rate environment. The 117 million represents 25.6% of the total securities portfolio. While our equity moved down to 180 million, it is being driven by the mark-to-market accounting in our securities portfolios. Had we not made the move last year to classify these securities from AFS to HTM, we would have seen it decrease another $15.6 million. Net interest income increased $1.3 million or 35.2% annualized compared to the prior quarter and $3.2 million or 25.4% compared to the second quarter of 2021. Non-interest income of $1.6 million was down from the first quarter but up from prior year. We booked $705,000 of provision expense with loan growth for the quarter, and operating expenses were basically flat from the prior quarter. Net income was $5.3 million, or 26 cents a share. And I will remind you that EPS comparisons prior year will be difficult and not relevant due to the multitude of items we did to clean up our capital stack throughout 2021. With that, let's take a quick look at our key performance indicators on the next page. In terms of soundness, our credit metrics remain pristine. We had no loan charge-offs, and our loan loss reserve coverage ratio was down to pre-pandemic levels of 1.15%. In terms of profitability, return on average assets was 1.08% for the quarter, and return on average equity was 11.38%. Our NIM expanded 15 basis points from prior quarter to 3.37%, and our efficiency ratio was 55.34%. Last, our tangible book value per share came down to $9 per share, which is reflective of the negative mark in AOCI I mentioned earlier. With that overview, let's look at our loan book and loan yields. We separated out our quarter loans from the Triple P loans so you can see how each component piece is working. While the Triple P loans are going through the forgiveness process, our total average loans, excluding Triple P loans, increased $102.3 million or 34.9% annualized compared to the prior quarter, and $289.9 million, or 29.3% compared to the second quarter of 2021. While this is another quarter with loan growth above our previous guidance, I will provide two comments for modeling purposes. First, our ending spot balance for the second quarter of $1.373 billion is well above the quarterly average, and if you held the $1.373 billion steady all quarter for Q3, we would expect a similar average growth rate in Q3. Second is becoming more likely that loan growth may slow during the latter part of this year or certainly into 2023 as rates continue to rise and fears of an economic downturn continue to develop. This will add a new wrinkle to our guidance, but for the near term, you should expect a similar growth rate as Q1 and Q2 and taper back down to our previous guidance that we provided you in the past. We will still be on the high side of that range, which is the high single digits to low teens, but we'll provide more guidance on 23 as we get into our Q3 call later this year. As it relates to loan yields, we are flat to prior quarter. However, most of the loan fees associated with the Triple P loans have been recognized. The more important data point here is our loan coupon, which is up 15 basis points from prior quarter and up 31 basis points from the prior year. We should continue to see our loan coupon come up with rising rates and the repricing of variable rate loans in our loan portfolio. I will touch more on this in a bit. In terms of new loan origination yields, this quarter we saw the weighted average coupon at 4.45%, and we expect this to increase in coming quarters. With that, I'd like to turn it back to Lou to provide you some more detail on our loan book.

Thank you, Rob. South Florida is a real estate country. denominated economy, and financing commercial real estate is a major driver of the local economy. It stands to reason that area commercial banks will tend to have CRE in a higher asset class concentration within their portfolio mix. Slide number eight details U.S. Century's loan portfolio mix, which we actively guide and closely monitor from a risk management perspective. As of June 30th, 2022, the bank's combined owner and non-owner CRA concentration was 61% of the total portfolio of 1.373 billion or 843 million. We review our concentrations with granularity, periodically analyzing sub-markets and loan types and actively reporting to our board while maintaining within established bank limits. By example, the bank's retail portfolio, which comprises 30% of the overall CRE loan class, is conservatively margined with an average loan-to-value of 56.9%, without major individual client concentrations, as the average loan size is 3 million. As a point of further comparison, which underscores the conservative approach we have on CRE, the average LTVs on the hotel sector is 53%, in the office, 55%, and multifamily, 63 percent. Another diversified asset class which is growing are yacht loans, a new business vertical launched in January 2022. Yacht loans are classified as consumer loans, which comprise a growing 15 percent of the total loan portfolio. Initially, the bank entered the yacht lending business through the purchase of a high-quality, low-margin, seasoned loan portfolio being sold by a bank that had exited that space due to its sale. For over two years, our credit department worked on analyzing the higher end yacht market as a strategy to further diversify the loan portfolio and develop potential new high net worth clients. The initial loan purchases of the yacht portfolio occurred between June and August 2021 and totaled $92 million. These marine loans are conservatively margined with an average of 65% LTV or less. Repayment is calculated on the personal cash flow and liquidity of the sponsor owners, which on average exceeds two times debt service coverage. The loans, which are secured and perfected by a first position SHIPS mortgage, have a 20-year term but have an average duration of 36 to 42 months. The Yacht loan portfolio totaled $95.6 million as of June 30, 2022. with $34.3 million in new organic production since January 2022. Total Yacht Loans paid off from the originally purchased loan portfolio in 2021 totaled $28 million, confirming the short duration of this asset class for which we have established a concentration limit of up to 10 percent of the total loan portfolio. Management's commitment is to conservatively grow and actively manage a well-diversified and balanced loan portfolio. As we have reviewed on slide four, the bank's loan growth trends have been steadily increased between year-end 2016 and 2021 at an average growth rate of 10% per year. The expansion of our lending teams over the past two years, as well as the introduction of new lending verticals, including Homeowners Association, SBA, Global Banking, and Yacht Lending have contributed to diversified loan growth. The positive effect of these levers have well supported loan growth over the past five quarters as we can see on slide number nine. Total loans grew 15.4% for the first two quarters of 2022 with 169 million in new loan production in Q2 2022. This strong net loan growth between Q4 2021 and Q2 2022 is magnified as new production increased while payoffs decreased. It is clear that rising loan rates have significantly slowed down requests for refinancing. Nonetheless, the pipeline remains strong and loan demand steady in the near term.

Okay, thank you, Lou. Let's take a quick look at our triple P fees and how that impacted our loan yields. First, triple fee fees were cut in half this quarter, and we only have about 149,000 of unrealized fees remaining at quarter end. So you can expect this government-sponsored program to slowly come to an end. Also, we have $13.5 million of PPP loans remaining on our books at quarter end, and that's down from $25 million from the prior quarter. With that fairly straightforward, we'll move on to deposits. Deposits continue to grow despite holding rates steady. Average deposits increased $66.4 million, or 16.1% annualized compared to prior quarter, and $284.5 million, or 19.9% compared to second quarter of 2021. While our deposit costs inched up one basis point, we are beginning to see requests for higher rates. I would expect deposit rates to begin to increase from this point forward. As stated last quarter, I would expect us to be able to slow walk rate increases on our interest-bearing deposits and would expect slower overall deposit growth going forward. We are not a bank that pays the highest rate in town. We believe our deposit base is relationship-oriented granular in nature, and 37.6% of total deposits are in DDA accounts, demonstrating that U.S. Century Bank is the primary bank for many of our clients. So let's move on to the margin. Net interest income increased 1.3 million or 35.2% annualized compared to prior quarter and 3.2 million or 25.4% compared to second quarter 2021. Net interest margin of 3.37% is up 15 basis points from the prior quarter and up 23 basis points from the second quarter of 2021, demonstrating an asset-sensitive balance sheet. This quarter, we saw record loan production and payoffs and paydowns slowed, resulting in $114 million in point-to-point loan growth. This loan growth was funded by excess cash, selling securities, and new deposits. The result was our earning asset mix has shifted to our higher yielding loans and less cash and securities. Again, the percentages being shown are average balances, but if you did the math on an ending spot balance, the earning asset mix continues to improve. Also, we anticipate this math to improve as we move into the second half of the year, which will help our net interest margin. With that, let's see how sensitive our balance sheet is to interest rate movements and what you may expect in the coming quarters. While we have already experienced nice movement in our net interest income and NIM, we continue to believe U.S. Century Bank is positioned well for this unprecedented rate cycle. First, our balance sheet is slightly less or slightly asset sensitive, which means our assets will reprice faster than our liabilities. Having said this, I would say that our balance sheet is less asset sensitive this quarter than last quarter as we have less cash, have lower amounts of short-term securities, and have moved those assets into more longer-term loans. All this movement has made our balance sheet slightly less asset-sensitive this quarter. 41% of the loan portfolio is fixed rate, while the remaining 59% is variable rate. As you know, the variable rate loans provide protection against rising interest rates. The variable rate loans are index to prime, constant maturity treasury rate, or CMT, and LIBOR. In terms of repricing, the bank will reprice 37% of the variable and hybrid rate loan portfolio within the following year. In the next six months alone, we have a $244 million of loans repricing with a weighted average coupon of 4.48%. And according to our modeling, these loans will easily reprice above five. As it relates to our security portfolio, we expect to receive $20 million from prepayments and maturities, or 4% of the total portfolio. for the remaining of the year. Currently, our portfolio is invested at a 2.04% yield. Effectively, we can reinvest these cash flows at 4%, which would result in an additional $392,000 of interest income annually or deploy this cash into new loan production at much higher yields, which is the most likely scenario. All these items are positives for our NIM and net interest income. And according to our ALM model static run, the bank's net interest income will increase slightly with a parallel rate shock in year one. A parallel rate shock assumes all points of the curve move in a parallel fashion. This is highly unlikely, especially as we just saw the Fed hike the Fed funds rate 75 basis points and the belly of the curve stay flat or go down. This makes forecasting our NIM and the impact in net interest income challenging to forecast, but for the remainder of 22, I would guide you to model a modest increase in our NIM from current levels, and I would caution to put out there with a very flat or inverted yield curve, NIM increases or even maintaining a NIM at current levels would become more challenging as time goes on. As we all know, banks' NIM is more likely to expand with a steep yield curve and less so with a flat or inverted yield curve. So with that, let's move on to non-interest income. Service fees increased slightly in the quarter, and other income remained consistent quarter over quarter. You'll notice that we experienced some fluctuation between quarters, but that's just primarily due to one-time items in prior quarters. The one item I would point out is the $3,000 loss on securities sales, and would note that our securities portfolio went down $59 million from prior quarter to fund loan growth. And given the increase in rates that we experienced, we believe we are prudently managing the securities portfolio. The SBA loan sales were amiss this quarter, but we look to get back on a stronger trajectory in Q3 and Q4. So with these straightforward, let's take a look at expenses. Our total expense space was flat from the prior quarter at $9.6 million. While most line items are flat to prior quarters, we continue to make investments in key personnel and technologies. In fact, we signed an agreement at quarter end to implement a new loan origination system, which ties into our CECL software and will provide operating efficiencies in the years to come. As it relates to a future run rate, you can expect expenses to gradually increase from this point forward. We will continue to invest in personnel and technology, and while we expect to gain solid operating leverage with these investments, I will point out that we had a 55.3% 4% efficiency ratio, which is down from 62% from the prior year. With the scale we are building on the balance sheet and expanding NIM, I think our efficiency ratio will continue to grind down lower. With that, let's look at asset quality. Our allowance for credit losses was at 1.15%, and that's down from the prior quarter. The allowance excluding triple P loans was at 1.16, down from prior quarters, but in line with pre-pandemic levels. There are no loans under deferment due to COVID. We have no OREOs and no non-performing loans. As it relates to CECL, our progress is on track and the initial results are largely in line with our expectations. We believe we are well prepared for a January 2023 implementation. And as this day slowly approaches, we'll keep you posted on any day one adjustments for CECL. Let's take a look at capital. While all our capital levels came down a bit with growth, they remain above well-capitalized levels. As mentioned previously, the board approved a share repurchase program in January of 2022 for 750,000 shares or approximately 4% of our total shares outstanding. Given our current growth rate and uncertainty in the economy, management did not repurchase any shares this quarter. Our final slide lists six powerful takeaways, which we believe underscore a strong investment thesis for our franchise. We have discussed these items before, so in the interest of time, Why don't we open it up for Q&A. Operator?

Thank you. We will now begin the question and answer session. If you have a question, please press 01 on your touchtone phone. Once again, if you have a question, please press 01 on your touchtone phone. Our first question comes from Will Jones from KBW. Your line is now open.

Hey, great. Thanks. Good morning, guys. Morning. Morning. Hey, so I just wanted to start on a loan book, and so I think you alluded to it, particularly on the consumer book. That's all pretty nice pickup, you know, quarter over quarter. Was that all, you know, growth in that yacht loan portfolio? On the consumer side, yes. And how much was that total dollar of, you know, yacht loans that you guys put on the books this quarter? About $38 million, I believe it was.

Yeah, slightly over $30 million.

Okay, great. I know you guys have previously talked about capping that portfolio, and you guys are still not quite at that cap, but do you plan to continue growing that book? And how high, as a percentage of your total loans, could we actually see that balance get?

As I mentioned, we've talked of a cap of up to 10% of the total book, and the answer is yes. We have seen strong demand, as you know, and I've reported before. The South Florida market is probably the most active in the high-end yacht business, especially with all the international boat shows that are held down here. The season starts back in November and gets very active between January and probably July. We believe that there's going to be more of the same for the balance of the year.

Okay, super helpful. Thank you. And then to switch over to fees, you know, I know the SBA market was tough this quarter, you know, just with margins compressing and whatnot. But, you know, you're 30 days in now to the third quarter. Do you have any better sense of visibility as to whether that market is opening up a bit? And how should we think about the way SBA trends from here, but both from a loan growth perspective and gain on sale fees?

Well, we believe that we are going to continue seeing solid activity on the SBA side. Remember, we have both the 7A loan program, which is the portion that we do sell the guaranteed portion on, and the SBA 504, which finances owner-operated commercial real estate, which we are focused on. Our SBA 504 pipeline is as steady as it's ever been. And our 7-8 pipeline is two. What has happened that we've seen as rates have gone up, a few deals that we did have approved because of the rising rates and the fact that they repriced quarterly, we've had owners that have taken a pause to see how the market moves. We believe that it will move briskly through the end of the year. But the reality is that the moves in the interest rate has affected it.

And lastly for me, just thinking about buybacks, you know, I know growth is a priority in the first half of the year. You guys certainly executed on that. And, you know, maybe if we see a little bit slower growth in the second half of the year, you know, valuations are certainly more attracted today than they've been. Do you consider buying back shares here?

You know, the share price is extremely attractive at this point. But, you know, there's a lot of uncertainty in the economy right now with an inverted yield curve, you know. We've got debates on whether we're in a recession, not in a recession. You know, our growth rate is really strong, and I think our best use of capital right now is to continue to support our growth, and that's where the board has decided to let us go, and we agree with that. So I think even though the stock price is really attractive, I don't think we're going to be active at this point. Super helpful. All right. Thank you, guys. Appreciate it.

Thank you. Our next question comes from Graham Dick from Piper Sandler. Your line is now open.

Hey, good morning, gentlemen. Hey, Graham. So I just wanted to circle back on SBA really quickly to get an idea just of the fee line itself. I mean, is this something we should see kind of go back to those 2020 levels of like, I mean, if you annualize it, you know, $200,000 a quarter, or should we see this kind of like be a little lower from here and just build off of what we saw in 2Q until, I guess, business activity recovers?

Well, actually, 2020 was a good year for us, but it was actually the first full year of the program. I think it's going to slow on the 7A, but I think it's still going to be steady. We are actually the most active 7A lender in South Florida. So I believe that there's going to be volume coming towards us because we know how to do it and we seek the business. The question mark is going to be with the higher rates, what's going to be demand from the client? I think it's going to slow down a bit, but our plan is to hit our budget numbers. And right now, just right now, we have

in the pipeline what we need to uh to get to the finish line okay great uh and then i guess just on the nem i just wanted to start with the uh the variable rate book i know you said you've got a slug of loans that will reprice in the next six months but i'm just wondering how many what dollar amount of loans is going to be impacted by yesterday's uh rate hike uh just trying to get sense for like you know what reprices immediately versus you know, in three months or six months.

Thank you. Yeah, so, you know, on the repricing, we have about $244 million that's going to reprice in the next six months. You know, we probably have 122 of that indexed to one-month LIBOR, which is mainly in our RESI book. We have some on prime, about $78 million. and the balance that's probably on five-year cmt uh which which will typically reprice so we feel pretty good about what's repricing but to answer your specific question as it relates to the 75 bips that the fed did yesterday i would say that's on the prime book and the one month library book okay great that's very helpful and then shipping uh shipping a very positive cost i mean

I know you said you're going to likely see some pressure, I guess, starting to go forward, but they barely moved it all this quarter and you guys showed pretty good discipline there. So I'm just wondering about your all's ability to lag increases and kind of what you might see throughout the rest of this year versus what we might see into 2023 in terms of an overall deposit beta at that point.

Yeah. So the one basic point obviously would be a very low beta. We are seeing a lot more requests for price rate increases, and we're really dealing with some of those on an exception basis. We met yesterday as a team after the Fed met, and we have moved up some of our CD rates. But overall, I would say a 25% to 35% beta would be okay in terms of what we're modeling, and we've just got to hold steady. The big piece here is that we've got to grow both sides of the balance sheet And right now, we've got a lot of good loan growth, and we're still able to grow our deposit books. So we're going to see what the dynamics entail in the second half of the year. But for modeling purposes, I think, you know, like a 25% to 35% deposit beta is good for modeling purposes.

Okay, great. And then did I hear correctly – this is just a quick one. Did I hear correctly that – so there's 20 million of maturities in the security portfolio to happen throughout the rest of the year that you're likely – or that you would hope to put into the loan book?

Yeah, so we just have natural prepayments on our securities portfolio. We've modeled that pretty heavily, and about $20 million we expect to come off for cash flow. So we could redeploy that $20 million without selling anything. Certainly those securities have a big mark on them right now because they were put into the securities portfolio in a low interest rate environment in the last year and a half or so. So but we'll still get $20 million that comes off the book.

Okay, great. Thanks for taking my questions, guys. Congrats on a good quarter.

Thanks, Graham.

Thank you. Our next question comes from Joe Yanchunas from Raymond James. Your line is now open.

Good morning. Thank you for taking my questions.

Morning.

Morning. So what percent of the growth

in the second quarter can be attributed to some of your recent hires and secondly how should we think about your hiring efforts moving forward at this point i would say that to the remember uh there are four of our recent hires came in between uh late november 2021 two of them came in the first quarter of 2022, but they're all delivering nicely. There was a team that we brought in in late 19 that actually one came in late 19, the rest in 20, but that was the beginning of the COVID year. So we really didn't see that first group really come into action into mid 2021. I would say that they're probably contributing about 20% of the loan production for the quarter. I think we have the team that we need to move things forward. Like I said, we have rotated non-performers out, so we're holding our costs and our talent at the point that there are. I do believe that due to the disruptions that we're gonna be seeing in the market due to M&A activity, there's gonna be talent available. As a matter of fact, I am talking to a number of them right now. So I do believe that as these transactions settle, we are going to be a bank of choice and we will be making decisions based on those opportunities.

Great. And then on credit, I was wondering, are you seeing any potential signs of stress in the South Florida markets? And maybe more specifically, any sectors you're more cautious to in lending at this point?

We review this on an ongoing basis. And at this point, the answer is no. Our past dues are at absolute historical lows month after month after month. We look very carefully, as I reported, in all our sectors, warehouse, hotel, office, multifamily. Our loan-to-values are very conservative. It is very granular. And these portfolios, you do not see concentrations in any one particular client. On the hotel sector, for example, our focus is on we don't do boutiques. They're flag hotel. They tend to be... extended stay. And actually, the extended stay sector during the slowdown that we saw in COVID was the one that outperformed all other sectors within the industry. So we look at things very closely, very granularly on an ongoing basis. And at this point in time, we don't see any major issues. We're probably staying away from the office sector more than anything else just because You're seeing so many businesses kind of reconsider their model because of COVID. People are working remotely. You're seeing pretty much every business taking a look at the amount of space that they need. So we're a little bit more cautious in that area. But overall, we continue to execute the plan as we have before.

Great. Well, thank you for taking my questions.

Absolutely.

Thank you, Joe.

And presenters, we have no further questions in queue. At this time, I will now turn it back to Louis for closing comments.

Thank you. Well, this past week on July 23rd, we marked a year since the bank launched a successful IPO. It's been an active year where many goals were achieved, including the simplification of our capital structure, formation of a bank holding company, and the creation of a share repurchase program. Continued commitment to corporate government saw an expansion of our board with three new experienced directors. Our lending team grew with new hires. Our geographic footprint expanded with the opening of a commercial loan office in Coral Gables. We launched a new yacht lending business vertical, which is quickly growing and delivering strong results, further offering product diversity to our loan portfolio. We released a new treasury management and mobile banking digital offerings, and cap the year by joining the Russell 3000 Index, an important milestone which will broaden USTB Financial Holdings' overall investor awareness and exposure within the investment community. It's been an active year of building our franchise for continued growth opportunities. While management is mindful of current economic uncertainties, we remain encouraged by our competitive positioning in the dynamic South Florida market, our strong profitability metrics, asset sensitivity, and the economic strength in our footprint gives us confidence in our ability to achieve our financial targets for the second half of the year and beyond. Thank you all, and we look forward to our next meeting in October.

Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating. You may now disconnect.