Customers Bancorp, Inc

Good morning. My name is Brianna, and I will be your conference operator today. At this time, I would like to welcome everyone to the Customer's Bancorp, Inc. Q2 2024 earnings webcast. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question during this time, please press star, then the number one on your telephone keypad. To withdraw your question, please press star one again. I'll now turn the call over to David Paddy with Customers Bank Corp. You may begin your conference.

Thank you, Brianna, and good morning, everyone. Thank you for joining us for the Customers Bank Corp. Earnings Webcast for Q2 of 2024. The presentation deck you will see during today's webcast has been posted on the Investors Web page of the bank's website at customersbank.com. You can scroll to Q2 24 results and click Download Presentation. You can also download a PDF of the full press release at this spot. Our investor presentation includes important details that we will walk through on this morning's webcast. I encourage you to download and use the document. Before we begin, we would like to remind you that some of the statements we make today may be considered forward-looking. These forward-looking statements are subject to a number of risks and uncertainties that may cause actual performance results to differ materially from what is currently anticipated. Please note that these forward-looking statements speak only as of the date of this presentation, and we undertake no obligation to update these forward-looking statements in light of new information or future events, except to the extent required by applicable securities laws. Please refer to our SEC filings, including our Form 10-K and 10-Q, for a more detailed description of the risk factors that may affect our results. Copies may be obtained from the SEC or by visiting the Investor Relations section of our website. At this time, it is my pleasure to introduce Customers Bank Corp Chair, Jay Sidhu. Jay?

Thank you, Dave, and good morning, ladies and gentlemen. Welcome to Customers Bank Corp's 2024 Second Quarter Earnings Call. Joining me this morning are President and Chief Executive Officer of Customers Bank, Sam Sidhu, and Customers Bank Corp CFO, Phil Watkins. I'll provide some introductory comments, and then my colleagues will provide the details of the quarter. At the conclusion of our prepared remarks, we look forward to answering your questions. Let's move to slide three. I'll briefly touch on the highlights from this quarter, especially noting where our results are positively differentiated from industry trends. First, please note that we again delivered strong earnings per share in the quarter. exceeding consensus estimates on both GAAP as well as core basis. Again, the trends that many banks are experiencing right now against those trends, we generated strong high quality loan growth in the quarter, 11% annualized pay. We continue to execute on the company's deposit transformation in the quarter. We used $600 million-plus of core commercial deposit growth to repay higher-cost consumer deposits and further reduced wholesale CDs. We also reduced our average cost of deposits during the quarter. In contrast to most in the industry, our net interest margin expanded by a healthy 19 basis points, and we expect continued expansion by the end of the year. Tangible book value per share exceeded $50 after generating 13% annualized growth in the first half of 2024. We achieved our previously stated 7.5% tangible common equity to tangible asset target in just two quarters of 2024. We remain very optimistic about the year with strong loan and deposit pipelines. we believe we are in an enviable position to continue to take market share our new business and commercial banking teams are off to a great start and will serve to further accelerate and enhance those prospects now turning to slide four we again reiterate our priorities to you which broadly remain unchanged Having achieved both our CET1 and our TCE to TA capital target, we are well positioned to execute the disciplined loan growth we have previously shared with you, as well as continue to generate strong growth deposit growth and remain focused on holistic client relationships, strengthening our balance sheet, continuing to improve our liquidity, and maintaining or expanding, as I said earlier, our margins. I will now turn the call over to Sam to talk about what makes Customers Bank a unique franchise. Sam?

Thank you, Jay, and good morning, everyone. I want to first start off by thanking all of our team members for helping Customers Bank to be named the number one bank by American Banker among all banks between 10 and 50 billion in assets just this month. This is a testament to the hard work and contributions from our team members across the entire bank around our clear and simple strategy. Banking is a highly competitive industry, and long-term success is dependent upon being able to differentiate the company, especially in the eyes of clients. We wanted to take a moment to convey what we believe makes us different. We have a unique operating model anchored around a culture of exceptional customer service delivered by entrepreneurial-minded professionals, a focused product offering, and a unique strategy. Client service is a key differentiator for customers' bank. It's in our company's name for a reason and has always been at the very heart of why we exist as an organization. We firmly believe that if our clients are successful and our team members are successful, when both of these groups say wow, that will result in success for our company and its shareholders. We believe that our entrepreneurial culture has been and will continue to be critical to our success. But we won't ask you to take our word for it. The incredible talent we've been able to recruit over the past year shows this. The top-tier professionals who had their pick of banks chose to join our company in a large part because of the unique culture at Customers Bank. While other banks of our size have long relied on more commodity-oriented lending verticals like... middle market CNI franchise. Thanks to our strategic moves over the past few years to start verticals, build out technology and treasury products, and attract incredible talent with decades-long relationships and experience, these factors are driving incredible deposit momentum and profitability across the franchise. We deliver the product breadth and sophistication of a larger bank and a level of service beyond what the large banks can realistically offer. We believe being a top three to five national competitor in any niche verticals in which we participate is imperative as we can't be all things to all people like the money center banks. We are seeking to be a bank with a breadth of products and services where a client we serve never has to leave our institution. Diversification has always been a key component of our business model. Past and recent history has shown that no matter how strong any given vertical seems, concentration can cause challenges for banks. We have proactively limited loan and deposit levels across our franchise to ensure our growth will be broad-based, diversified, and deliver consistent returns for our shareholders. Our branch-light model allows us to invest in the people and technology that clients desire both today and into the future without being burdened with an expensive legacy branch network, as well as, frankly, a technology stack. And we can do this while still operating with top quartile efficiency ratio. Financial results are an output of the unique set of inputs that a company chooses to employ. As we've discussed on previous calls, we believe in revenue, earnings per share, and tangible book value per share growth are key metrics for shareholder returns in the banking industry. The unique combination of the attributes I just discussed is what has resulted in a five-year compounded annual growth rates of 21% in revenue, 33% in earnings per share, and 15% in book value through 2023 compared to just 12%, 7%, and 8% respectively for the top quartile of all banks with 10 to 100 billion in assets. As you can see, our performance is multiples, not just above the industry average, but also above the top quartile performing banks as well. On slide six, we've provided the quarter's financial highlights on a gap basis, and on slide seven, we have provided our results on a core basis. We had a really solid financial quarter across the board. This is a function of years of investment paying off. In the quarter, we earned $1.66 in gap EPS on $54.3 million of net income. Core EPS was $1.49 on $48.6 million of net income, and our core ROCE and ROA were 12.4% and 1% respectively. Our net interest margin expanded 19 basis points to 3.29. The primary difference between our gap and core earnings was a positive benefit from a gain we realized on a fintech investment purchase at a discount in the quarter, as well as severance-related expenses. Credit quality remains strong, as evidenced by our NPA ratio of just 23 basis points. Moving to slide eight, our top financial priority remains continuing to execute on the next leg of our deposit franchise transformation. We are thrilled with our deposit performance to date. As Jay mentioned, we generated about $600 million of gross commercial... to a billion dollars of high quality commercial deposit inflows per quarter, which will be used to similarly remix and strengthen the franchise. And while total deposits were down modestly, this is due to a timing lag of remixing. Growth was once again broad-based with more than 20 deposit channels growing in the quarter. About half of these channels experienced growth of $25 million or more. As a result of these incredible efforts from our team members, our average cost of deposits actually declined in the quarter, by five basis points to 3.4% as we continue to buck industry trends. Non-interest bearing spot deposits were down modestly but stable as of Friday, June 28th and continue to represent about 25% of total deposits at quarter end. Average balances were actually up modestly as we continue to see tailwinds here with deposit generation from the new teams coming in at least our current mix with a bias to somewhat higher levels. Importantly, we continue to focus on the stability of the deposit franchises insured and collateralized and affiliate deposits end of the quarter at 76% of total deposits, which is at the high end of the industry. Moving to slide nine. In line with our discussion last quarter, the next phase of our deposit transformation involves replacing less strategic and higher cost deposits with higher quality deposits. By quality, we mean a focus on some combination of depth of relationship, cost, and granularity. We want to provide you with a brief update on the performance of the teams that joined us over the last year, including the 10 new banking teams that joined the bank in April. We are extremely thrilled with their progress to date. Since the first quarter of 2023, newly hired banking teams have generated about $900 million of growth in granular, low-cost, relationship-based deposits, averaging about a 3% blended rate or 2.5% below Fed funds. I'll take a moment to give more detail on the early performance of our newest teams that joined us just last quarter in the month of April. We knew when we hired the banking teams that they were highly experienced and talented bankers, but we have been amazed at the strength of the relationships that these bankers have with their longstanding clients. I have personally participated in more than 175 in-person meetings with customers and prospects since the new teams joined. The receptivity from clients has been nothing short of fantastic. We have the capabilities to deliver for these clients, and we believe nearly all of them are looking to join the bank thanks to our best-in-class customer service and financial strength. In fact, all but two of the client prospects I personally met with are already customers or expected to become customers. We are thrilled to welcome these new clients to our bank. The teams hired in April generated more than $250 million of new deposit balances with about 30% being non-interest-bearing at a blended cost of approximately 3%. of the more than 1400 accounts that we've opened, approximately 20% have been funded in a meaningful way. This is as of July 23rd, 2024. The primary operating account nature of these relationships takes time to transition, but also signifies the quality and stickiness of these accounts. Just to put that account opening into context, On March 31st, 2024, we had around 15,000 commercial customers. So these new teams have increased our commercial account franchise by almost 10% in approximately 100 days of business development. Teams recruited over the last year is over $2 billion, which we expect to convert over the next few quarters. Importantly, we remain on track for the newest recruited teams to be breakeven by the end of the first quarter of 2025, as we previously guided to, which is going to be an incredible feat in just a few short quarters. On slide 10, you can see that we generated $358 million of held for investment net loan growth in the quarter, an impressive 11% annualized growth rate at a time when industry loan demand is tepid. This production came from our corporate and specialized banking verticals. Our largest contributors were fund finance, healthcare, and equipment finance. Given the high commercial real estate concentration of regional banking peers, our relative low CRE concentration is proving to be a competitive advantage. And with the pullback of competitors, there may be select opportunities for us to add some volume in the back half of 2024 to support our best clients where we have a primary relationship and substantial deposits. New loan production came in at highly attractive yields with floating rate loans pricing all in around SOFR plus 300 basis points. Our loan pipelines remain strong and our outlook of 10 to 15% loan growth in 2024 remains intact. We will remain disciplined and focus on selective full relationship franchise enhancing loan growth. We again have visibility into a pipeline of roughly four to $500 million, getting booked in the third quarter as we are seeing and converting great opportunities across the franchise. Our new banking teams are also contributing to the pipeline. And as a note, these are highly granular relationships with a typical average balance of roughly only $2 to $3 million. With that, I'd like to turn the call over to Phil to provide additional detail.

Thanks, Sam, and good morning, everyone. On slide 11, we have provided the components of our net interest income, which grew by over $7 million, or about 5% in the quarter. Net interest margin expanded by 19 basis points to 329, outpacing what much of the banking industry is experiencing right now. Included in the expansion was an approximately five basis point impact of prepayment income on loans and securities. Even adjusting for this, we still would have experienced about 14 basis points of NIM expansion in the quarter. For the third quarter in a row, we had a decline in our interest expense this quarter by $5 million. We are the only bank in our proxy peer set that has reduced interest expense three quarters in a row. While period end loan balances were up $358 million in the quarter, net interest income was only impacted by an average loan balance increase of $223 million. In the third quarter, we will benefit from those additional balances that came on late in Q2. We also completed some strategic hedging activity in the quarter. We executed a forward starting swap converting in excess of $1 billion of our fixed rate liabilities to floating in order to reduce our overall asset sensitive position. The transaction will impact NIM by an estimated one basis point for full year 2024 with an estimated four basis point impact in Q4. While our sensitivity position has been accretive, we believe it was prudent to continue bringing our interest rate positioning closer to neutral. With continued positive catalysts, we remain confident in our ability to achieve our previous NIM target guidance with Q4 being impacted by the hedging I just discussed. Moving on to slide 12, we'll discuss some of the components of our second quarter expenses. Our core non-interest expenses increased to $101 million in the second quarter. The primary contributed roughly $10 million in compensation expenses for technology and business development. We were able to more than offset the costs associated with the new teams this quarter from a gain we realized on a purchase of an equity investment, equity method investment at a discount in the quarter. Other drivers of the increase in core expenses in the quarter included about $1.2 million of increased reserves for unfunded loan commitments from increased loan balances, which we record in non-interest expense, and about $1 million of increased expense in connection with our consumer HFS program, which came with associated revenue. We would note that even with this higher level of non-interest expense, our core non-interest expense as a percent of average assets is still top quartile among our regional bank peers. We believe it is prudent to invest in the business in a disciplined way to generate long-term shareholder value, and we continue to invest in our current and future team member and technology infrastructure. Finally, as we previously stated, the investment in the new teams will temporarily elevate our efficiency ratio for a few quarters, but we remain on track to generate incremental revenues to fully offset these expenses within 12 months of their onboarding. We are confident in our ability to return to a mid-40s efficiency ratio over the medium term. On slide 13, we focus on a key driver of shareholder value, tangible book value per share growth. Our tangible book value exceeded $50 this quarter, ending at nearly $51 per share, and we still have more than $4 per share of AOCI anticipated to be recovered over time. Tangible book value per share grew by an impressive 20% year over year. This compares extremely favorably to our peers with a comparable number in the low single digits. Our 15% CAGR over the last five years ranks in the top five among all US banks with assets between 10 and $100 billion. We expect to continue to deliver these types of growth metrics over time. Moving to slide 14, We are thrilled to announce that just halfway through the year, we've achieved our 7.5% TCE to TA ratio target. This ratio increased by approximately 40 basis points in the quarter and has increased by approximately 170 basis points over the last year. Our risk-based capital levels continue to be very strong, as evidenced by CET1 of 12.8%, providing us with ample capacity to deploy risk-based capital to strategic franchise-enhancing loan growth. Our board of directors authorized a share repurchase plan for approximately 500,000 shares last month. This authorization was for an equal number of shares unused under the previous program that expired last September. We continue to believe the most valuable form of capital deployment for the bank is franchise-enhancing organic growth and we have tremendous opportunities that we are currently executing on. We will continue to closely monitor the best opportunities to deploy capital for our shareholders and now once again have a share repurchase program in our toolkit. Turning to slide 15, we remain focused on maintaining robust levels of liquidity. While we did utilize some excess cash balances to fund loan growth and reduce higher cost deposits, our liquidity ratios remain robust. Our coverage of immediately available liquidity to uninsured deposits is extremely strong at 193%. Our loan-to-deposit ratio continues to provide us funding flexibility at only 75% compared to peers at 89%. Our borrowings as a percent of total liabilities declined from 8% to 7% in the quarter and remains in line with peers. Moving to slide 16, NPAs as a percentage of total assets ended the quarter at 23 basis points and remain low. We did see a modest uptick in the quarter off of an extremely low base. Our 23 basis point NPA ratio is below the 43 basis points of our regional bank peers. Additionally, our level of criticized and classified loans was down for the second consecutive quarter by about $35 million, or 7%. Q2 levels are down 18% from the level we had in the fourth quarter of 2023. Consumer installment HFI loans now account for about 6% of total HFI loans. And Office Cree, a perceived area of higher risk, accounts for only about 1% of our loan portfolio. And with that, I'll now pass the call back over to Sam before we open up the line for questions.

Thanks, Phil. On slide 17, I wanted to wrap up with a few concluding themes. Firstly, we... relationships. Next, our net interest margin expanded, and this trend is outpacing the broader industry because of the opportunities we have on both the asset and liability sides of our balance sheet. Fourth, our deposit transformation story continues to progress incredibly well. The reduction in wholesale CDs is largely complete. The next chapter of our deposit transformation is to continue improving the cost and granularity and mix of our deposit base. We're well on our way, but have a significant opportunity ahead of us. The momentum from the new teams is exceptional, and we'll look for this to significantly enhance the efforts. Next, as Jay and Phil previously noted, our tangible book value increased to over $50 this quarter, growing 20% year over year. And sixth, we have achieved the capital targets we previously stated. We believe operating at these higher levels of capital is prudent in an uncertain environment and are excited for the opportunity to deploy the incremental capital we are generating to further drive shareholder value. And finally, we added a share repurchase program to our capital toolkit. With that, we'd be happy to take any questions.

Thank you. We will now open the lineup for questions. If you have dialed in and would like to ask a question, please press star one on your telephone keypad to raise your hand and join the queue. If you would like to withdraw your question, please press star one again. If you are called upon to ask your question and are listening via loudspeaker on your device, please pick up your handset and ensure that your phone is not on mute when asking your question. Our first question comes from the line of Peter Winter with DA Davidson. Please go ahead.

Thanks. Good morning. It was nice to see loan growth after five quarters of the loans declining. Can you Just talk about the loan composition and kind of drive us to loan growth going forward.

Yeah. Hey, Peter. Good morning. Yes, I know our team members across the organization were excited, you know, as we talked about last quarter, to really be able to restart a lot of that franchise relationship-based loan growth. You know, as you saw in the materials in the quarter, it was really driven, you know, in large part by our corporate and specialized verticals. So really seeing good activity, you know, across that organization. But the largest components coming from fund finance, which is both lender finance and capital call equipment, finance, health care. But we really saw some some contributions across that portfolio. And then when we look forward, candidly, it's probably more of the same. We're seeing good opportunities across that entire franchise. Sam mentioned we could look for some of our strongest relationships for a little bit of commercial real estate in the back half of the year. And then I'd say the one change from the second quarter looking forward is obviously the new teams that were onboarded while, again, they're predominantly deposit, you know, focus. They are, they're obviously credit needs for, you know, for holistic relationships and in instances as well. So we will look for them to contribute to some of that growth in the second half of the year.

Got it. And, you know, just on the 10 banking teams, you know, could you talk about, do you need any additional products or services to meet the customer needs and, and, You know, with the new team supposed to break even by the end of the first quarter next year, what type of deposit growth do you need to achieve that?

Hey, Peter. This is Sam. Good morning. And I apologize if I missed part of the question. Please let me know at the end. We had a little bit of a break, at least on our side here. But, you know, I believe you asked about breakeven of the new deposit teams. And, you know, just to sort of recap, you know, we've over a thousand accounts, just a small amount are funded with material balances. And we continue to be adding, you know, significant account growth as well as unfunded deposit accounts being funded and new accounts being opened at a faster pace than even that. Last quarter, if you recall, we shared a little bit of a matrix, which had sort of deposits on the left side and cost deposit savings on the right side. I think that gives you a really good sense. It's conservative from the perspective that it's really just focusing on interest expense reduction as the driver of revenue growth, as opposed to also including, as you heard from Phil, there's a little bit of interest income as well that's coming. I think as an example, we had about $30 million or so just in the second quarter that came from new relationships associated with the new teams. So long way of saying that the breakeven is expected to be closer to the top right end of that matrix, which is lower on the deposit range, because we are currently seeing, based upon the information we have, both of what has been booked as well as the pipeline, about 30% of deposits being non-interest bearing and the blended costs being at or around 3%. Got it.

Just one last question. Just the expenses came in a little bit higher than I was forecasting this quarter. Do you still think you can get to near a 50 percent efficiency ratio by year end?

Hey, Peter. Yeah, we're still targeting that. But as you can appreciate, there's a lot of moving pieces with these investments. And, you know, as Sam mentioned, it's there's a number of steps in taking market share. And so the exact timing, you know, can be challenging to predict. So, you know, while obviously the timing could move, you know, around by a quarter, we think we're, you know, going to be, we're making good progress towards that, and then that ultimate step down, as we've talked about, towards a mid-40s efficiency ratio over the medium term. Got it. Thanks, Phil.

Our next question comes from the line of Steve Moss with Raymond James. Please go ahead.

Good morning. Good morning, Steve. Just going back to the deposits here. I'm just curious, you know, if you just talk a little bit about, well, maybe just start first with the, you know, the potential for interest rate cuts here. Just curious how you guys are thinking about your deposit beta if we get some cuts going forward.

Sure. I'd be happy to take that. So, Steve. I think our cumulative deposit beta lending to especially some of the positive mix shifts we've seen over the last year really peaked at somewhere in that 55 to 60% range. We'd expect something similar on the way down from a deposit perspective. The X factor is the continued mix shift that we're also seeing. So independent of a rate cut, we're actually seeing our deposit costs go down. In fact, we've seen our interest expense reduce three quarters in a row as an example.

Okay, great. And then in terms of just the ongoing remixing, just curious about, you know, where your broker deposit levels are these days, Sam, and just kind of, you know, how you're thinking about the goal as the year progresses.

Sure. You know, so, Steve, as I walk through, you know, as we look forward, we talked about from a remix perspective, our primary focus is reducing deposits that are higher costs and also in some case classified, you know, as brokered. So, you know, our ability, our desire is to remix these deposits, you know, as the in the coming quarters, in addition to sort of the higher costs, more concentrated deposits that we talked about before. At the end of the day, what we're seeing is a 30% non-interest bearing mix within the new customers that are being onboarded, and they're being used to you know, remix 100% interest-bearing deposits as an example, which includes our broker deposits. Our broker deposits are expected to increase slightly this quarter, but they will, you know, they have peaked and they will be, and plateaued and we'll be reducing them significantly in the coming quarters. So that's our expectation.

Okay, great. And if I can sneak one more in here, I just wanted to clarify, I wasn't sure if you said in your prepared remarks, Sam, about, you know, on the 30% non-sparing deposit mix, if that's kind of what you guys are expecting going forward or if it's going to be a little bit higher. So one clarification there.

Sure. So we were, you know, I think we guided last quarter. We talked about at least in range with our current mix, which is 25 percent of an overall franchise perspective. We're seeing it coming in a little bit higher, which is better than expect expectations. Having said that, this is just on a couple hundred million dollars of balances. So we don't want to overread. I think that the main objective, the main. you know, focus. What's interesting from a tailwind perspective is that if these are being used at 25% or 30% or 33% non-interest-bearing to remix interest-bearing deposits, that's going to have a tailwind, you know, on our mix shift.

Okay, great. I appreciate all the callers. Thank you very much.

Our next question comes from the line of David Bishop with Havdi Group. Please go ahead.

Yeah, good morning, gentlemen. Hey, Sam, I wonder if you could talk, you know, you mentioned maybe, you know, some delay or, you know, the longer process of sort of onboarding the new clients and such. Just curious, you know, from an outsider perspective, what sort of the average lead time and lag time to sort of get these new clients onboarded that may be longer than maybe an outsider may expect?

Sure. Absolutely, Dave. Good morning. So I think what's interesting is I think we know as individuals, if we had to change our bank account, you know, from bank X to bank Y, you have to sort of think about your W-2, your payroll, your auto pays, et cetera. For commercial customers, that's a lot more complicated because there are different sources of revenue and a lot more complex payables as well as recurring costs. And then you add on sort of technology complexities, as well as in some cases, cash management and check deposits. And you can appreciate that's a complicated effort. The good news is our team really is an extended back office for many of our customers to really help them with this onboarding integration. Typically, we're seeing as short as 30 days, as long as 90 days. you know, for customers, for the bulk of customers, you know, to be able to migrate and move over balances to the bank.

Got it. And then the call sort of broke up a little bit when you were talking about expected inflows. Just curious to hear in the billions of dollars over the next couple of quarters in terms of inflows from these new teams?

That's right, in aggregate. Dave, what I said on the call was, if it broke up, was $500 million to $1 billion per quarter. And to put that in perspective, you know, we were $600 million of commercial inflows this quarter and $1 billion or more the previous four. So it kind of gives you a sense where we expect this pace that we've been on for the last year, more than a year, to continue. Okay, got it.

Any details you can provide on the swap that you layered in this quarter?

sure sure dave uh good morning it's it's phil uh yeah as i mentioned it's uh it was about a little over a billion dollars of fixed rate liabilities uh that we converted to floating and so that was a forward starting swap that we executed early in the second quarter so that'll take effect starting in the uh starting in the fourth quarter and it was the basis point impact in the fourth quarter and at four next year No, with four basis points in the fourth quarter, which would be a full year 2024 basis, full year 2024 impact of about one basis point. Obviously, you know, the exact impact on 25 will be dependent on, you know, where the rate trajectory goes. But we'd actually expect it to be roughly break even in 2025 and then obviously accrete it from there. Got it.

And then final question, any color on the DDA outflows we saw this quarter? I was curious if any of that related to maybe the digital asset .

Yeah, Dave, I'll take that.

You know, I think the way to think about this is sometimes our period imbalances based on customer activity increases in your favor. Sometimes it decreases and, you know, in this case, it was slightly decreased quarter over quarter. I think the key important thing here is that non-interest-bearing operating accounts grew in the quarter, and our pipelines continue to be robust. So, you know, we're seeing tailwinds, as I talked about before. So, this is really just a factor of client-to-client activity as opposed to customer growth or negative mix shift.

We're actually seeing the opposite. Got it. Thank you. Our next question.

of Matthew Breeze with Stevens, Inc. Please go ahead.

Hey, good morning. Morning, Matt. I was hoping just given the prepayment income commentary, you could give us just a little bit more sense for the NIM cadence through year end. It sounds like from now until year end, we'll see some expansion, but the third quarter, I could use some help with the third quarter and where you expect that exit to be at.

Yeah, sure. Hey, Matt. Good morning. It's Phil. Yeah, so I think we tried to sort of reset, if you take that prepayment income down, sort of reset that baseline basically would have been sort of closer to 325 in the second quarter. And then I think we've said that you know, we'd look to get above the, you know, to the higher end of our range by, you know, by Q4, with obviously Q4 now being a bit impacted by that hedging. So I think most folks, you know, maybe yourself included, were somewhat sort of linearly stepping up like that. So, yeah, I think you could see, you know, kind of less in the third quarter and then more of a boost step back in the fourth quarter.

Got it. Okay. And then I was hoping you could talk a little bit about, you know, the deposits coming in, you know, balance sheet size expectations. And then as you fund loan growth, there's still excess cash, securities rolling off. So I would love a few different guardrails, one being expectations around cash to assets, securities to assets, and then overall balance sheet size over, you know, three-year end and maybe 2025. Yeah. Hey, hey, Matt.

So, you know, I think we're, you know, I think we said sort of we were we were well above 30 last quarter. I think we moved down to around 30. And we sort of said, you know, anywhere in that 25 to 30 percent range feels like, you know, a reasonable spot. Obviously, we'll continue to monitor that. But as you highlighted, there's there is some extra room there that we do want to continue to maintain. higher levels of liquidity. You know, as far as balance sheet size, you know, as Sam mentioned, you know, majority of this, we'd look to, you know, continue to, you know, to continue to remix as well on the deposit side. Though, you know, you could see, we've talked about, you know, roughly flattish balance sheet, though you could see, you know, a little bit of modest growth, but roughly flat in 24.

Got it. Okay. And then turning to expenses, does this quarter's operating expense base, does that fully reflect the new teams or should we continue to expect a little bit of upward migration? If so, to where?

Yeah, it does. I'll use fully. Obviously, some of them joined a week or two into April, but basically does fully include that. And so we think it's a reasonable run rate. Obviously, you could have some of your normal inflationary pressures like our mid-year merit increases and those types of things, but it should be a reasonable run rate.

Okay. And then and then my last one was just, you know, you know, Michael Barr was out in May, you know, testimony, just talking about some of what needs to be done in terms of responding to the March Madness events last year, and some of the unexpected deposit uploads and the extent in that testimony, he specifically mentions, you know, deposits from crypto and venture capital firms, you can tie that with individuals and So, you know, one, I would just like some update in terms of crypto exposure and the plan there. But two, just given that he called out venture capital deposits, are there any balance sheet limitations as you look to grow that business? Or did that comment strike you in any way? Just some color there.

Yep. Sure, Matt. So I'd be happy to take that. So firstly, starting on, you know, CBIT balances. No change to our previous guidance and our also self-imposed limitation of approximately 15% spot all in, which includes any digital asset customers. So that's the answer to your first question. And this quarter was consistent with past quarters. So no changes there. More broadly, I think you heard me in my prepared remarks talk about the self-imposed limits on both sides of the balance sheet, frankly, from a concentration perspective. You know, this is informed from a customer's bank perspective, not only, you know, from the events of last March, but if you actually take a step back, you know, we were pleased to say that, you know, we actually, you know, imposed these limits and in some cases targets. Earlier in the quarter, I think it was January or February of 23, right? So it shows that as a management team and a board, you know, we were ahead of the curve, you know, from thinking about the concentration levels. Specific to, you know, venture banking, This is a great business for us. I think that we have deep customer relationships. I think historically, when we started this business, if you go back to some of our managing meetings and board meetings, we talked about our desire to get this to a top 10 type business within a five-year period. And you heard me talk about that for any of our niche verticals or national verticals. Pleased to say we've already, we're hands down understood the industry to be top five You know, already, and in most cases, we're worried about win rate of 30% or so, which is really a testament to the success of the incredible team that we've hired and onboarded and the receptiveness they've had in the market. I think that there's some specificity of thinking about a specific institution that may have had concentrated deposits. I bring it back to concentration of deposits. and householding and networking as opposed to having any deposits from a specific industry. This helps us from a diversification standpoint. These deposits have been sticky. They're relationship-focused, and they're insured at at least – at or at least the same levels as our entire institution is insured, and I believe that is different from the historical view.

Understood. I appreciate all that. Thank you. I'll step back. Thanks, Matt.

Our next question comes from the line of Kelly Mata with KBW. Please go ahead.

Hi. Thanks so much for the question. I was hoping to circle back on the expense side. You know, I appreciate the commentary that, you know, you've obviously added a lot of teams and there could be some timing with that with regards to achieving your efficiency targets. As you look at the expense base, and it was running still a bit higher than where I had expected, just wondering if there was any other things not related to teams that also may be, you know, driving those a bit higher than we initially thought at this time last quarter.

Yeah. Hey, Kelly. Good morning. It's Phil. Thanks for the question. So yeah, as outlined, it is, you know, it is mostly related to the teams. That was the largest driver of it. But I did highlight in my prepared remarks sort of two other items in there that were in there this quarter. So one was actually tied to our loan growth. So we record our reserves for unfunded commitments through non-interest expense. So that higher loan volume Again, especially given it was in our specialized C&I categories with the off-balance sheet aspect of that, you know, unfunded portion of that as well. So that was about $1.2 million in the quarter. And there was also about $1 million worth of expenses associated with one of our HFS programs. But again, almost similar to our equipment finance business, where you can have increased expense there with increased sort of associated revenue. So those were two other drivers, larger drivers in the quarter.

Got it. Thanks, Phil. That's helpful. And then second for me, it was really, really nice to see both capital ratios at or above the targets that you've identified. laid out um just wondering how you guys are thinking about capital from here i know you guys put out um the buyback program um any thoughts on letting capital build versus um you know capital return options and utilizing the buyback after the run the stock price sure kelly

You know, I think that it's always good to have a buyback from a toolkit perspective.

I think stepping back, you know, when we sort of instituted this and brought this to the board, you know, I think, you know, our shares were significantly lower than they are today. But having said that, it's important to have, if nothing else, just from a perspective of, you know, cleaning up share issuances and making sure that year over year, you know, we're in a situation where we do feel that there's consistency from a outstanding share perspective. From a capital planning perspective, I think hitting these targets was important. We were very disciplined in our ability to make sure that we hit these targets. you know, the capital menu is generally the same for customers' bank, focusing on, you know, organic growth opportunities, you know, all the way down to sort of more, you know, reactive, you know, from a buyback perspective if and when needed. And we'll always be opportunistic there. But really, nothing has changed, you know, from the way that we're approaching capital. We're just really pleased to be – to not just reach, but substantially start, you know, getting past. And I think that our organics growth for retained earnings across the franchise, as well as continuing, as you heard from Phil earlier, maintaining a flattish balance sheet, because the remixing on both sides of the balance sheet is happening within the plus or minus $20 billion that we have, $21 billion that we have today.

So hopefully that gives you a little bit more color.

That's very helpful. Thank you. I'll step back.

Thanks, Kelly.

Our next question comes from Hal Goach with B. Reilly Securities. Please go ahead.

Hey, good morning, everyone. Hey, terrific quarter. My question relates to the loan growth. You've been very consistent this year for 10% to 15% loan growth, but in your comments today, you said that your low commercial real estate exposure is becoming a competitive advantage and more visible, and that it may allow you to add more volume. I was just curious if you could elaborate on that more, or is this more of a momentum into 2025 type comment? Thank you very much.

Sure, absolutely, Hal, and I'm happy to take that.

And I think that, as you can probably appreciate, especially in our home markets where we have sort of experienced bankers in our geographies, be it in the Northeast, New York City, and to a lesser extent on the West Coast, there are typically many of the competitive banks that serve these customers, to my earlier comments, have some, you know, concentration, provisioning, credit, overhang, you know, type challenges that need to be worked through. And that is not a one or two quarter type, you know, work through. It usually takes a little bit longer. So I think that while these banks likely want to be servicing their customers, they may not have as much of an ability to. So I think there's an opportunity not only for us to step in from a relationship and a platform and a financial strength perspective, you know, but to also looking at the type of vintage and underwriting that we would do second half of this year were to selectively look at opportunities that you know would be very attractive so it'd be win-win-win across the board from you know helping our customers uh current as well as prospective customers um you know where they may not have as many other options um but also um you know would be you know great you know franchise enhancing and likely credit managed and mitigated relationships, just given our conservative underwriting, which would be a very high bar in today's environment.

Okay, thank you.

Our next question comes from the line of Frank Chiraldi with Piper Sandler. Please go ahead.

Morning. Just in terms of the Just a point of clarification, Sam. I just want to make sure. The deposits that are coming on as part of these teams, did you say it's 3% blended? Does that include the non-interest bearing, or is that just 3% on the interest bearing?

It's a blend, Frank, that includes the non-interest bearing.

Do you have any reason to believe this will be much different in terms of sensitivity to rates? Do you still think these betas will not move your total deposit beta significantly as you grow it. And also just an add on to that, following the hedging here, how close are you guys to neutral and what does a 25 basis point rate cut do in the near term?

Sure.

So I'll start and maybe Phil can take the hedging part of the question.

So from a a beta sensitivity perspective on a go-forward basis, we think we're generally, you know, going to be in a similar position with these new relationships in the sense that the interest-bearing deposits, just focusing on that component, are lower on an average, weighted average basis relative to our franchise, but they're still going to be rate sensitive, you know, on the way down.

And, you know, I think so that's important from a from an overall perspective. I'll let Phil talk more broadly about the, you know, our hedging.

Yeah. Hey, Frank. Good morning. So, on the hedging side, I would say it was, you know, that was definitely a larger chunk in order in terms of getting us down closer to neutral. We also did, and we provided some info on this as well, did a bit of a rotation within the securities, within our AFS securities portfolio. which also organically got us, you know, a reduced sensitivity, which was rotating out some of our floating rate ASS to HQLA-based securities. So we did a little bit there as well. We'll provide, obviously, more disclosure in the queue. You know, there's probably still a little bit of work left to do, but we think we've done, you know, a very nice amount, and obviously think it was, you know, we thought it was the right thing to do at the right time.

Okay, so it's just not that important now in terms of near-term impact to the margin for a given rate cut, given what you guys have done on the season?

yeah yeah i think that's right i mean obviously we were just modestly asset sensitive to start and we brought it even closer to neutral so you know um again not saying that it won't have any impact but but we continue to bring that down closer to neutral great um and then just just lastly on the uh reserve um just curious you know kind of broad strokes as you build continue to build these especially verticals um i guess you continue to run down the consumer installment

Net, what do you think we should expect from the reserve to loan ratio moving forward here?

Yeah. Hey, Frank. So you did hit it on the head. I mean, that is obviously that mixed shift away from the higher reserve consumer loans towards, especially given that the larger part of our growth on the commercial side is in our you know, our specialty verticals, which typically have the, you know, sort of the lowest risk profile in them. And, you know, and that's the lowest reserves. So, you know, I do think that that will continue to have some impact. Obviously, there's the every quarter wildcard of, you know, what happens with the macroeconomic factors. We did, you know, highlight that this quarter's levels on the commercial side were impacted by, you know, slight improvement in the macroeconomic forecast implications. So that's always a little bit out of our hands, but you can see that's why we try and provide that level sort of by type so that you could see basically assuming sort of static coverage ratios on that, those loan types. As that mix shift changes, you should be able to see sort of where that would change with the reserve level as well. Again, all things equal with macroeconomic factors and within the loan portfolios.

Appreciate it. Thanks, guys. Thanks, Frank.

This will conclude our question and answer session. Thank you all for your patience while we work through our technical difficulties. I would now like to turn the call back to Sam Sadu for any closing remarks.

Thanks, everyone.

Really appreciate your interest in Customers Bank, and please reach out with any questions, and we look forward to speaking next quarter.

This concludes today's conference call. Thank you all for your participation. You may now disconnect.