FB Financial Corporation

Good morning and welcome to FB Financial Corporation's third quarter 2022 earnings conference call. Hosting the call today from FB Financial is Chris Holmes, President and Chief Executive Officer. He is joined by Michael Mati, Chief Financial Officer, and Greg Bowers, Chief Credit Officer, who will be available for questions and answers. Please note FB Financial's earnings release, supplemental financial information, and this morning's presentation are available on the investor relations page of the company's website at www.firstbankonline.com and on the Securities and Exchange Commission's website at www.sec.gov. Today's call is being recorded and will be available for replay on FB Financial's website approximately an hour after the conclusion of the call. At this time, all participants have been placed in a listen-only mode. The call will be open for questions after the presentation. During this presentation, FB Financial may make comments which constitute forward-looking statements under the federal securities laws. All forward-looking statements are subject to risks and uncertainties and other facts that may cause actual results and performance or achievements of FB Financial to differ materially from any results expressed or implied by such forward-looking statements. Many of such are beyond FB Financial's ability to control or predict, and listeners are cautioned not to put undue reliance on such forward-looking statements. A more detailed description of these and other risks is contained in FB Financial's periodic and current reports filed with the SEC, including FB Financial's most recent Form 10-K. Except as required by law, FB Financial disclaims any obligation to update or revise any forward-looking statements contained in this presentation whether as a result of new information, future events, or otherwise. In addition, these remarks may include certain non-GAAP financial measures as defined by SEC regulation, GA presentation of the most directly comparable GAAP financial measures and a reconciliation of the non-GAAP measures to comparable GAAP measures is available in FB Financial's earning release, supplemental financial information and this morning's presentation, which are available on the investor relations page of the company's website at www.firstbankonline.com and on the SEC's website at www.sec.gov. I would now like to turn the presentation over to Chris Holmes, FB Financial's President and CEO.

Chris Holmes All right. Thank you, Jason. Good morning, and thank you for joining us this morning. As always, we appreciate your interest in FD Financial. For the quarter, we reported EPS of 68 cents per share. We've grown our tangible book value per share, excluding the impact of AOCI, a compound annual growth rate of 14.9% since our IPO. We had good performance this quarter, both in the banking segment and in the mortgage segment. First, starting with the bank, we had 22% annualized loan growth. As I've said before, asset generation has not been a problem for First Bank. And our continued loan growth is reflective of our experienced and trusted relationship managers operating in excellent markets that have strong underlying job growth and in-migration. We're also proud of our non-interfering deposit growth, which was 9.7% annualized this quarter. and 13.7% year over year. Growing operating relationships and non-interest bearing deposits has been a focus of management and our team continues to execute well, particularly in the interest rate and deposit environment that we find ourselves in. We believe that our non-interest bearing growth is a signal of the strength and the momentum of our franchise. Those balance sheet trends resulted in strong growth and profitability as our net interest margin expanded to 3.93% in the quarter, and our net interest income grew by 9% over the second quarter. As a result of that improvement, the bank segment delivered a PPPROAA of approximately 1.9% in the third quarter, which is getting closer to where we expect it to be. For mortgage, we had a loss for the quarter, but we also finalized our restructuring of the segment. We're now at a point where we feel comfortable with our staffing and organization to weather this challenging environment while avoiding additional material losses. As a result of this restructuring, the mortgage segment returned operational profitability in both August and September, while the seasonality of the fourth quarter and the first quarters While the fourth quarter and the first quarter will exacerbate the current headwinds in the industry, we would expect to be close to break even for the next couple of quarters. While we are pleased with our third quarter results, we're also looking ahead at gray skies. We're hoping for a drizzle, but we're prepared for Jamie Dimon's hurricane. The macro factors of rising interest rates, strong employment, high inflation, and good customer sentiment will lead you to think that interest rates will continue to rise. When mixed with quantitative tightening, shrinking liquidity, the potential for significant market disruptions, a war in Europe, and almost assurance of a recession, it makes this an important time to rely on fundamentals, discipline, and messaging. As the economic times are moving from boom to something less, We've had to transition from aggressive growth of the franchise to ensuring that we take care of customers regardless of economic conditions. In times like these, we say our balance sheet is reserved for our customers, so we have to be prepared to get them through challenges if we encounter difficult market conditions. Our people live and work in markets that are surrounded by customers that continue to experience strong demand above average population growth, robust housing markets, continuous wage growth, and in some of our markets they can't get to their office without driving past a sea of construction cranes. Our people are passionate about serving their customers no matter the circumstances and preparing for a slowdown where our markets are still so robust is a communication challenge. That being the case, we're emphasizing continued to grow our business aggressively on the deposit side. We're avoiding significant new customer acquisition on the credit side right now, and we are trying to take care of the existing borrowing customers. We're managing our liquidity credit and capital to be prepared for any range of economic scenarios, better safe than sorry. On our liquidity, we had $537 million of net deposit outflows during the quarter, and we expected that, as we referenced on last quarter's call. Stripping out two large public funds accounts, which combined for $619 million in deposit reduction during the quarter, we had net growth from the rest of our deposit base. One of these large public accounts was over $500 million and was a bit away from us on terms that we were not willing to match. We can increase and have increased our customer funding at less expensive rates while also freeing collateral that improves our overall liquidity positions. Following this quarter's deposit activity, we're now at 91% HFI loans to deposits and securities assets of 12.1%. We feel our balance sheet mix is optimized in this environment for strong profitability, and we have ample liquidity sources that will allow us to continue serving our customers, even in the most extreme economic conditions. Going forward, we don't anticipate letting ourselves get above the current 91% loan to deposit ratio. We're also not willing to pay for unprofitable deposit relationships, and we still prefer not to use brokered CDs, although that's an available option. That means we'll fund most of our additional loan growth with customer deposits. That also means that for the near term, we won't have outsized loan growth that you've seen over the last three quarters. We would anticipate not exceeding the bottom end of our long-term loan growth target of 10% to 12% during the fourth quarter and the first part of 2023. While the past few quarters would tell you that there's Still, clearly strong demand for first bank lending relationships. We're intent on throttling back our production. As a result, we've raised the bar for new loans. We feel confident that our underwriting standards should hold up through the cycle. If there's been a tweak, it's been that we've been stressing interest rates a little more given the current environment. Otherwise, we've not made changes to our credit process. However, until we can gain clarity on which areas will be impacted by the slowing economy, we're cutting back on traditionally higher risk product types of construction, A&D and CRE. With the limitations around assets we're willing to put on the balance sheet, our growth should continue to be incrementally profitable. Moving to capital, we maintain a very strong equity position with a CET1 ratio of 10.9% for tangible common equity. The tangible assets declined by 36 basis points to 8.54% due to a further increase in the unrealized loss on our securities portfolio. I would reiterate that that unrealized loss is all interest rate related and temporary. As I mentioned previously, we have no intention of turning those unrealized losses into realized losses. We're preparing for a slowdown and being cautious on credit and balance sheet management. We're balancing that with our longer term strategic priorities. A recently announced Vanderbilt sponsorship would be an example. While that's an expense for us heading into a recession, We had an opportunity to become a bank for one of the most significant institutions and brands in our geography, and we acted on it. Another such focus would be our recruitment efforts for both relationship managers and customers in the wake of recent acquisitions in our footprint. While we will not allow ourselves to grow loans at an outsized pace, there are certain once-in-a-career type customers that may be looking for new partners, and we will do that, and we will do what we can to accommodate them. Similarly, we continue to be active in our discussions with a handful or so of banks that we've identified as Tier 1 high-quality potential partners. If one of those banks that we know well decided to sell in the next few quarters, we would not stay on the sidelines solely because of the uncertain economic outlook. All that to say, we're proud of our performance in the quarter, but we're cautious about the operating environment for the next few quarters. We're hoping for a mild downturn, but we're doing what we can to prepare for a potentially difficult stretch. We feel our conservative balance sheet management and underwriting standards will serve us well no matter what outcomes. I'll turn it over to Michael for more color on our financial performance in the quarter. Thank you, Chris, and good morning, everyone. I'll speak first to this quarter's results in our banking segment. Our baseline run rate pre-tax pre-provision income for the banking segment was $55.9 million in the third quarter. Pointing to the segment core efficiency ratio reconciliations, which are on page 19 of the slide deck and page 19 of the financial supplement, we had $112.1 million in segment tax equivalent net interest income this quarter. Along with that $112.1 million in net interest income, we had $10.3 million in core banking segment non-interest income. Finally, we had $65.9 million in banking segment non-interest expense. You will remember that last quarter, due to our lower level of taxable income, we had a geography shift of $1.4 million as tax credits were moved from a reduction in our tax expense to instead be a reduction in non-interest expense. This quarter, we had $700,000 in banking segment non-interest expense as a result of that line. Adjusting for that shift, core banking segment non-interest expense would have been $66.6 million. Together, that comes to our $55.9 million in run rate segment PTPP, which has grown 30.9% over the comparable $42.7 million that we delivered in the third quarter of 2021. Moving on to our net interest margin, with summary detail on page five of the slide deck, Our net interest margin of 3.93% showed significant improvement from the 3.52% that we reported in the second quarter. Part of that improvement was due to the continued deployment of liquidity in the loan growth. For the second quarter, we estimated that excess liquidity had a 14 basis point negative impact on our margin. With our average balance sheet composition during the third quarter, we estimate no impact to margin due to excess liquidity. The remaining 27 or so basis points of expansion was due to assets repricing faster than our liabilities, as our cost of total deposits increased by 27 basis points, while our yield on loans, excluding non-accrual interest recoveries, accretion on purchase loans, and syndication fees in the prior quarter, increased by 52 basis points. Our securities portfolio increased by seven basis points, and our interest-bearing cash increased by 145 basis points. Looking forward for our margin, we had a run rate margin for the month of September in the 3.95% range. Our cost of funds is increasing as we expected it to, and we put new deposits on the books in the third quarter at a cost of 1.54%, and that was up to 1.79% in the month of September. So we would expect our cost of total deposits to continue to increase over the coming quarters, particularly with the additional rate hikes that are anticipated over the coming months. However, we have also seen an increase in our yield on loans. New loans in the third quarter had a yield of 5.96% and that was at the 6.18% in the month of September. So that's a net spread of 4.42% on new loans versus new deposits for the third quarter and 4.39% for the month of September. So we feel that our growth remains profitable. Our other spot numbers for you for the month of September would be contractual yield on loans of 5.12%, yield on securities of 2.15%, and cost of interest-bearing deposits of 0.97%. With our margin approaching 4%, we would expect it to start to level out. There should be continued upside to our asset yields with additional rate hikes, but competition for deposits across our markets is causing betas to accelerate, which should cap some of our upsides. For banking segment non-interest income, we continue to expect for our banking non-interest income to be in the $10 to $11 million range from quarter to quarter for the foreseeable future. As I mentioned earlier, we view our core banking segment non-interest expense as being $66.6 million versus the reported $65.9 million due to the 700,000 state tax credits that reduce non-interest expense this quarter. That number is higher than the $63.8 million to $64.3 million that we got into for the quarter as we accelerated a few of our internal projects geared towards organizational efficiency into the third and fourth quarters. As we expect continued growth in our banking segment, non-interest expenses due to inflationary pressures on wages, and we continue to hire both customer-facing and back-office talent. Moving to mortgage, after a difficult start of the quarter where we experienced a fair value reduction in both our pipeline and our mortgage servicing rights, the segment returned to profitability in spite of lower volumes. We do not expect a contribution to earnings in the fourth quarter due to the seasonal volume pressure and margins that remain below our historical levels. The changes to structure that have been made put us in a position to be profitable on an annual basis going forward. Moving on to our allowance for credit losses, we saw our ATL to loans increase by two basis points this quarter, and we recorded a sizable provision of 11.4 million. Economic forecast for the third quarter deteriorated slightly from those that we utilized in the second quarter. We have continued optimism for the long-term health and growth of our local economies, but we are closely watching inflation that we're experiencing and the increasing conviction of many economies that we will soon enter into a recession. If conditions do not change, we would anticipate remaining a similar level of ACL to loans held for investment over the near term. With that, I'll turn the call back over to Chris. All right. Thanks, Michael, for that color. Again, we're pleased with our results for the quarter and feel prepared for what's coming next. And that concludes our prepared remarks. Thank you for everyone, again, for your interest in FB Financial. And operator, at this point, I'd like to open

Thank you. We'll now begin the question and answer session. To ask a question, you may press star, then 1 on your touch-tone phone. If you're using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star, then 2. At this time, we will pause momentarily to assemble our roster. Our first question comes from Catherine Miller from KBW. Please go ahead.