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spk12: Hello and welcome to the Prosperity Bank Fair's third quarter 2023 earnings conference call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star, then one on your telephone keypad. To withdraw from the question queue, please press star, then two. Please note, today's event is being recorded. I would now like to turn the conference over to Charlotte Rasche. Please go ahead.
spk01: Thank you. Good morning, ladies and gentlemen, and welcome to Prosperity Bank Shares' third quarter 2023 earnings conference call. This call is being broadcast on our website and will be available for replay for the next few weeks. I'm Charlotte Rasche, Executive Vice President and General Counsel of Prosperity Bank Shares. And here with me today is David Zalman, Senior Chairman and Chief Executive Officer, H.E. Tim Tamanis, Jr., Chairman, Alsobek Osmanov, Chief Financial Officer, Eddie Saffody, Vice Chairman, Kevin Hannigan, President and Chief Operating Officer, Randy Hester, Chief Lending Officer, Merle Carnes, Chief Credit Officer, Maze Davenport, Director of Corporate Strategy, and Bob Dowdell, Executive Vice President. David Zalman will lead off with a review of the highlights for the recent quarter. He will be followed by Asilbek Osmanov, who will review some of our recent financial statistics, and Tim Comanis, who will discuss our lending activities, including asset quality. Finally, we will open the call for questions. Before we begin, let me make the usual disclaimers. Certain of the matters discussed in this presentation may constitute forward-looking statements for purposes of the federal securities laws, and as such, may involve known and unknown risks, uncertainties, and other factors which may cause the actual results or performance of Prosperity Bank shares to be materially different from future results or performance expressed or implied by such forward-looking statements. Additional information concerning factors that could cause actual results to be materially different than those in the forward-looking statements can be found in our filings with the Securities and Exchange Commission, including Forms 10-K and 10-Q and other reports and statements we have filed with the SEC. All forward-looking statements are expressly qualified in their entirety by these cautionary statements. Now let me turn the call over to David Solman.
spk16: Thank you, Charlotte, and good morning to everyone. I would like to welcome and thank everyone listening to our third quarter 2023 conference call. I'm pleased to announce that the Board of Directors approved raising the fourth quarter 2023 dividend to 56 cents per share from 55 cents per share that was paid in the prior four quarters. The increase reflects the continued confidence the board has in our company and our markets. The compounded annual growth rate in dividends declared from 2003 to 2023 was 11.5%. We continue to share our success with our shareholders through the payment of dividends, and opportunistic stock repurchases, while also continuing to grow our capital. Our tangible capital increased $243 million from September 30, 2022 to September 30, 2023. This is the amount Prosperity retained after paying $203 million in dividends and repurchasing $72 million of our common stock during this period, reflecting Prosperity's stable earnings. Prosperity reported net income of 112 million for the quarter ended September 30, 2023, compared with 135 million for the same period in 2022. Our net income per diluted common share was $1.20 for the quarter ended September 30, 2023 compared with the $1.49 for the same period in 2022. Prosperity's earnings were primarily impacted by a lower than normal net interest margin. Although our net interest margin is lower than we would like, the good news is that based on our models, we show our net interest margin improving in a 12-month and 24-month time period to our more normal levels. as our assets reprice to market rates. However, if rates increase more than we anticipate, this could change. The net interest margin on a tax equivalent basis was 2.72% for the three months ended September 30, 2023, stable when compared with 2.73 for the three months ended June 30, 2023. Prosperity continues to exhibit solid operating metrics with annualized returns on tangible equity at 12.58% and on assets of 1.13% for the third quarter of 2023. Our loans were 21.4 billion on September 30, 2023, a decrease of 221 million or 1% from the 21.7 billion at June 30, 2023. Our loans increased 2.9 billion or 15.8% compared with 18.5 billion on September 30, 2022. Excluding the loans acquired in the first capital acquisition and new production by the acquired lending operation since May 1, 2023, and the warehouse purchase program loans. Loans on September 30, 2023 grew $111 million or 2.3% annualized compared with June 30, 2023 and grew 1.4 billion or 8.2% compared with September 30, 2022. Interest rates have continued to increase and there are signs of the economy slowing and low growth moderating as intended by the Federal Reserve's actions. Deposits were 27.3 billion on September 30, 2023, a decrease of $68 million or two basis points compared with 27.4 billion on June 30, 2023. Deposits decreased 2 billion or 6.8% compared with 29.3 billion on September 30, 2022, primarily due to a decrease in business deposits and public fund deposits, partially offset by an increase in merger-acquired deposits. After a more challenging time in the first quarter of the year due to large bank failures outside of prosperity's markets, our deposits stabilized during the third quarter. Total deposits, excluding public funds, increased $216 million during the quarter. Importantly, this was achieved without the purchase of any broker deposits. Our non-interest bearing deposits represented a strong 37.6% of total deposits. Our non-performing assets totaled $69 million or 20 basis points of quarterly average interest earning assets on September 30, 2023, compared with 62 million or 18 basis points of quarterly average interest earning assets on June 30, 2023, and 19.9 million are six basis points of quarterly average interest earning assets on September 30, 2022. The increase during 2023 was primarily due to the merger and an increase in other real estate. Our asset quality remained sound, and the allowance for credit losses on loans and off-balance sheet credit exposure was $388 million on September 30, 2023. As mentioned in our last conference call, the accounting for acquired loans has changed. Under the new accounting rules, the full loan balance of each acquired loan is booked at closing and reserved as needed is set aside. Our non-performing assets include approximately $23.7 million from the first capital acquisition. The bank appropriately reserved for these loans at closing based on day one accounting. However, we are now doing a deeper dive into the collateral values and liquidation alternatives for these loans. If appropriate, Charge downs to the allowance for credit losses may occur in the next several quarters. Again, these loans are fully reserved for. Our acquisition of Lone Star Bank shares is pending the receipt of regulatory approvals. We are committed to the transaction and continue to work together with Lone Star in anticipation of the closing. The parties have extended the termination date in the merger agreement to March 31st, 2024, and are prepared to complete the transaction as soon as possible following receipt of regulatory approval. Our operational conversion date is set for second quarter 2024. We continue to have conversations with bankers considering opportunities. We believe that higher technology costs, salary increases, loan competition, funding costs, succession planning concerns, and increased regulatory burden all point to continued consolidation. The Texas and Oklahoma economies continue to benefit from companies relocating from states with higher taxes and more regulation. This combined with people moving to the states requires additional housing and infrastructure, a driver for loans and increased business opportunities. Although there are signs of the economy slowing, and loan growth moderating, I believe our bank is located in two of the best states we can be for future growth and continued prosperity. Thanks again for your support of our company. Let me turn over our discussion to Ossilbak Osmanov, our Chief Financial Officer, to discuss some of the specific financial results we achieved.
spk13: Ossilbak? Thank you, Mr. Zalman. Good morning, everyone. Net interest income before provision for credit losses for the three months ended September 30th, 2023 was $239.5 million compared to $236.5 million for the quarter ended June 30th, 2023, an increase of $3.1 million or 1.3%. And compared to $260.7 million for the same period in 2022, a decrease of $21.2 million or 8.1%. The net interest margin on a tax equivalent basis was 2.72% for the three months ended September 30, 2023, compared to 2.73% for the quarter ended June 30, 2023, and 3.11% for the same period in 2022. Excluding purchase accounting adjustments, the net interest margin for the three months ended September 30, 2023, was 2.68% compared to 2.7% for the quarter end of June 30th, 2023, and 3.1% for the same period in 2022. Period end borrowings decreased 550 million during the third quarter 2023, primarily funded by cash flows from the bond portfolio. Non-interest income was 38.7 million for the three months ended September 30th, 2023 compared to 39.7 million for the quarter ended June 30th, 2023 and 34.7 million for the same period in 2022. Non-interest expense for the three months ended September 30th, 2023 was 135.7 million compared to 145.9 million for the quarter ended June 30, 2023, and $122.2 million for the same period in 2022. The linked quarter decrease was primarily due to the merger-related expenses in the second quarter related to the first capital bank acquisition. For the fourth quarter of 2023, we expect non-interest expense to be in the range of $134 to $136 million. The efficiency ratio was 48.7% for the three months ended September 30, 2023, compared to 53.2% for the quarter ended June 30, 2023, and 41.4% for the same period in 2022. The bond portfolio metrics at 9-30-2023 showed a weighted average life of 5.2 years and projected annual cash flows of approximately $2.1 billion. And with that, let me turn over the presentation to Tim Timanis for some details on loans and asset quality. Thank you, Vasilevich.
spk15: Our non-performing assets at quarter end September 30, 2023, totaled $69,481,000, or 32 basis points of loans and other real estate. compared to $62,727,000 or 29 basis points at June 30th, 2023. This represents a $6,754,000 increase. The September 30th, 2023 non-performing asset total was comprised of $60,000,000 $126,000 in loans, $35,000 in repossessed assets, and $9,320,000 in other real estate. Net charge-offs for the three months ended September 30th, 2023 were $3,408,000 compared to net charge-offs of $16,065,000 for the quarter ended June 30th, 2023. This is a 79% decline on a linked quarter basis. There was no addition to the allowance for credit losses during the quarter ended September 30th, 2023, compared to an $18,000,000 $540,000 addition to the allowance during the quarter ended June 30th, 2023 that resulted from the acquisition of First Capital Bank of Texas. No dollars were taken into income from the allowance during the quarter ended September 30th, 2023. The average monthly new loan production for the quarter ended September 30th, 2023 was $398 million compared to $565 million for the quarter ended June 30th, 2023. Loans outstanding at September 30th, 2023 were approximately $21.433 billion compared to $21.654 billion June 30th, 2023. This is a 1% decrease on a link quarter basis. The September 30th, 2023 loan total is made up of 42% fixed rate loans, 27% floating rate loans, and 31% variable rate loans. I will now turn it over to Charlotte Rasche.
spk01: Thank you, Tim. At this time, we are prepared to answer your questions. Our call operator, MJ, will help us with questions.
spk12: Thank you. We will now begin the question and answer session. To ask a question, you may press star then 1 on your telephone keypad. If you are using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star then 2.
spk04: At this time, we will pause briefly to assemble our roster. Today's first question comes from Brady Gailey with KBW.
spk12: Please go ahead.
spk17: Thank you. Good morning. Good morning, Brady. I know in the past we've talked about the dynamic of the asset repricing pushing the net interest margin higher. I think previously you talked about a 3% margin within a year and like a 330 to 340 margin within a couple of years. Is that still the right way to frame the amount of NIM upside you're seeing going forward?
spk16: Every time I answer that question, Brady, I get looks in the room from my general counsel that I'm supposed to be cautious on this all the time. But the answer is yes. I mean, our numbers are still showing, you know, again, we're showing, we feel like we've kind of bottomed out where we're at. We feel there will be a decent increase in six months. 12 months and 24 months based on some of the numbers you just mentioned. And our models, we just ran our models again as of 9-30-23, and we're still showing that right now.
spk17: Okay. And, you know, you could get there tomorrow if you restructured the bond book. That's such a big opportunity. You guys clearly have the excess capital to consider doing something like that. I know it's gotten more costly just with the tick up in rates that we've seen, but it also would be more EPS accretive if you pull the triggers. Maybe just updated thoughts on how you're thinking about a possible bond restructuring or just a partial bond restructuring.
spk16: Well, we've looked at it. I mean, again, you either hold the bonds for three years and you get your money back or you sell them right now and take your loss and you get your money back through an accounting accretion. But To me, that's just kind of voodoo accounting, really. It would take our earnings from where we're at next year at 500 to maybe 600 and something million or 650 million. I mean, it would just propel the earnings. But again, those earnings would be propelled primarily from accretion numbers. And more so than that, under accounting, you have to put your bonds either in available for sale or HTN. And since this bank has began We, again, just because we were such an acquisitive bank, we always had to watch our capital. And so we never could take the chances when we didn't have that much capital to have a lot of big changes in our capital account. So we pretty much put probably 90% plus of all of our securities in HTM. So you really couldn't do it from an accounting standpoint. And if you did do it, once you did it, it would change everything. You couldn't go back to the HTM.
spk13: Yeah, that's correct. And I think just to add to his question, Ray, you said partially no. If you have to take the whole portfolio, you have to do the 100%, so the decision would have to do, do you want to take the whole portfolio or not? And I think at that point, with the duration being short and we can get all the cash within three, four years, we determine just leave it and let it reprice and use the cash flows for paying off our borrowing.
spk17: Yeah. Okay. And then finally, for me, just a quick one on the provision. I mean, it looks like you booked about $3 million of net charge-offs. You built reserve by about $6 million. So I would have thought the provision would have been like $9 or $10 million, but it's zero. So there must be something going on there.
spk13: Yeah, on the provision, Brady, we did put additional about $10 million for SCB, as we mentioned in our you know, comments earlier, we'll kind of dive in a little bit and we had to put an additional 10 million, that's related to SCB, but the charge of 3 million was, some of them were related to overdraft and loans, so it's only 3 million.
spk16: I think that it's crazy amount of, a lot of times it goes through that category, but Probably a majority of a lot of that time is just overdrafts and stuff like that. Combination of overdraft and loans, yeah.
spk13: And $3 million being not material, we determined we don't need to provision anything this quarter. And our model shows that we appropriately have allowance balance.
spk16: Well, you have $388 million in allowance for credit losses and $60 million in non-performing such. They were covered pretty good, probably. That's pretty strong. All right, great. Thanks for the color, guys. I will say that a lot of that money, I mean, some of that money was first capital reserves. I mean, we put, again, I don't know the exact numbers, at 85 million or so in reserves for first capital.
spk13: Including the, yeah, everything's about 95 million.
spk16: 95 million. Yeah, including the . But no matter how you look at it, 388 million, even if we decided to charge off, not charge off, but re-look at some of those things, I think you still have 388 million and 60 million. It's still a very strong position. Great. Thank you.
spk12: The next question comes from Dave Rochester with Compass Point. Please go ahead.
spk19: Hey, good morning. Nice quarter. Good morning, Dave. Thank you. Appreciate the update on the longer-term NIMA outlook, and it's good to hear the NIMA's bottomed here, and that makes sense, just given the repricing opportunity you guys have on the asset side. What are you guys expecting at this point for NIM more near term? Any way to put some parameters around that expansion that you're expecting here in 4Q and into next year?
spk13: Yeah, if you look at them, I would say for the fourth quarter, we have probably moderate increase. As we, based on what we look at our balance sheet, we see the third quarter, we believe, is the bottom from the NIM perspective. So now we're going to continue to optimize our balance sheet from the standpoint of We're using our bond portfolio cash flow to pay off higher borrowing. As you saw, we paid off $550 million right now in the third quarter. So we'll continue to do that optimization and balance sheet that will be NEMA credit for us. And as we continue to grow the loans that we'll reprice over time, that should help us from that standpoint. So I would say moderate increase in the fourth quarter with all of what I described right now with balance sheet optimization.
spk19: And then 4Q is normally a pretty good quarter for deposit growth, right? I mean, you normally see some seasonal strength there. That should help pay down some of those borrowings potentially?
spk13: It will. So we usually see the public fund growing in the fourth quarter because of the tax payment. It's usually end of the fourth quarter, like in the end of December and January. But I think more the impact we'll see in the first quarter. And we're also seeing that public funds, they probably not keep their deposit as longer as they used to be because they're moving to some tax pool or other areas. But we'll see the benefit of it in the fourth quarter. But I don't know how much of a significance we'll see. But we'll usually see about $400 million to $500 million deposit increase due to tax collections from the public funds.
spk16: But again, just cautionary. They left that money with us a lot of times, but now that they can get 5% and 6%, they may move it quicker too.
spk13: I agree. I think the timing of the keeping is probably very short. Once they collect it, they'll be moving out to the higher-yielding exports.
spk19: That expansion you're talking about at 4Q isn't dependent on that kind of growth, it sounds like. That's more from the asset repricing and stabilization of the core deposit side.
spk13: That's correct, especially what we said, you know, in bond portfolio, we have 2.1 billion cash flow with paying off. And if you look at our loan portfolio, we have about 5 billion of cash flow from the loan portfolio. That's going to reprice. But you have to keep in mind on the loan portfolio that out of 5 billion, about 65% is fixed to variable loans. That's probably at 5% and 5.5%. yielding so they're going to replace the eight and eight and a half right now and but the 35 already floating so we're not going to get a benefit out of that but yeah based on what we see and we see modest increase in the fourth quarter right you're saying new loan yields are still in that eight to eight and a half percent range that's what we're seeing it is okay great uh maybe just uh one more on capital
spk19: you're just about back to 50% in CET1 right now. Was wondering what your thoughts were on the buyback here with the stock near 50. Seems like you've got a lot of excess capital here that you could deploy. I know some of that will go to the deal closing coming up, but 15% gives you a lot of flexibility there. So just wanted to get your update thoughts.
spk16: We do have a lot of capital. I know a lot of people's questioning why we're not doing more. At the same time, there's a lot going on. I think that Again, I've always said that we like to use our capital for primarily mergers and acquisitions and also increasing dividends. At the same time, we truly are building capital. You can see that even in not one of our best years, we still retain quite a bit even after dividends and share repurchases. But one thing that we're looking at right now is with the regulatory agencies looking on what their new requirements are. We've been hesitant. I mean, right now would be like you, like you mentioned, you couldn't be a better time to be buying our stock. At least in my opinion, this is one of the cheapest things I've ever seen trading under 10 times next year's earnings. So it would be a time. I think right now we're just, we're really trying to see from a regulatory standpoint, what they're going to, what their new requirements are going to be, how they're going to consider, uh, losses in the bond portfolio. They consider that part of your capital, not part of your capital, however, Ours is an HTM right now. It doesn't seem like it's on the block for any change on that. It does look like if you have your bonds available for sale, that is going to be part of your capital calculation. At least right now, things could change. But we're just waiting to see that. And we do think there's going to be a number of opportunities out there right now with this everything happening. So having excess funds is not a bad place to be. It's a high-class problem right now.
spk03: Yeah, great. Agreed. Thanks, guys.
spk12: The next question comes from Michael Rose with Raymond James. Please go ahead.
spk09: Hey, thanks for taking my questions. A lot have been asked and answered, but Kevin, while I have you on here, can you just comment on the warehouse? Your guidance last quarter was pretty much spot on and just wanted to see how your crystal ball is looking as we think about that business over the next couple of quarters.
spk02: I think 90 days ago we said we'd probably average about 950. We did just a shade better than that. Michael, through last night, the average is down from that 972 for the quarter. It's down to 816. So it's dropped off pretty significantly. We closed yesterday at 740 million, almost exactly, out in the warehouse. So I think for the quarter, not too unlike last year's fourth and first quarter. We're probably looking more in the neighborhood of $725 million on average. So any kind of shortfall we would have gotten out of the public funds in terms of excess liquidity coming in the fourth quarter, we're going to have a couple hundred million here come off the warehouse that we'll use. If there's loan production, it'll go to loan production. If there's not, it'll go to pay down the... federal home loan bank borrowing. So it'll be down. We've got some uses for it.
spk09: Helpful. And then maybe just on the production, you guys have had pretty decent growth this year. I think some of the dislocations in your Texas markets, especially for some of your competitors, but it seems like some of those competitors are starting to get a little bit more aggressive on growth and just wanted to to see where that leaves you guys and, you know, should we consider kind of a mid single digit growth rate for next year, kind of what you've got to do for this year. Thanks.
spk02: Yeah, I think, Michael, I would tell you low to mid and off from what I said was mid last quarter. And that, you know, just by recapping, you know, part of that is our decision to sell mortgages rather than to portfolio them. And that's brought us into that mid range. We've seen some relatively weaker loan demand, I'd say, over the last month or so. And there's a lot of things that don't pencil out real well at these rates or take so much equity into a deal. It's just harder to get deals done. So look, if it's on the lower side, that'll be more money that can be used to pay down the borrowings. And if it's on the mid-side, that'd be great. So I I was just looking forward, I'd say, you know, low to mid.
spk16: And a lot of it has, Kevin, don't you think? You know, when we were just flush with deposits, we were looking at all kinds of loans, whether people had relationships with us or didn't have relationships with us. And now with deposits not being in the banks and everybody's trying to reduce their borrowings, we ourselves kind of restricted loans a lot because some loans that we would normally have made six months ago, we don't like today because we're not getting a complete deposit relationship. So some of this is by our own making too. So I guess we were at one end of the spectrum, we went to another end of the spectrum, and I guess that it depends where we finally, how the dust settles, where we all end up.
spk02: There's a lot of pluses and minuses, right? There's a lot of people really restricted. They basically have shut down, which you'd think creates opportunity. And I think we're in that period where the market's adjusting and borrowers are getting used to having to pay up. And our requirement of, hey, while you might have done this historically with Bank XYZ, if you're coming here, you need to move your deposits from XYZ to us or we're not interested. So we're going through that adjustment period as we speak. And if people are willing to pay up and move us deposits, we'll be there for them. But
spk16: I just saw yesterday like one of the lenders came to us and said that one of the deals that they're in, two or three of the banks that are participating in their line of credit are not willing to participate anymore and asked if we would participate. And I asked what the rate was, and it was still, I think, so far plus. Anyway, the total rate was about seven and a half. And this guy has always wanted to do business with us, but we've always been about a half a point short. So the lender said he would really like to come back and like us to do it. And he says, you're always about a half a point higher. And I said, well, we still are. So if we do see the pricing where it becomes better, then we may take more risk also, I think, at the same time.
spk09: Totally get it. Great color. And maybe just one final one for me, David. You threw out a lot of potential drivers for M&A as we move forward. Just broadly speaking, how do you think this all plays out? And then if you could just give us kind of a quick update on the Lone Star deal and maybe what's holding it up. I know you talked about it last quarter. I just want to see if anything has changed. Thanks. Thanks.
spk16: Well, I was hoping that some of the FDIC people were on the line. Maybe they could answer that about the approval on Lone Star. But we are still working with the regulators to get approval on the Lone Star deal. I'm hoping it's just times. All I can say is times are a lot different than when they were a year ago. But we're still completely committed to it. We're trying to get it done. And hopefully we can get that thing done and approved. Hopefully there will be some more opportunities out there that we're looking at. We'd like to move forward with those also.
spk03: Great. Thanks for taking my question.
spk12: The next question comes from Peter Winter with D.A. Davidson. Please go ahead.
spk08: Thank you. Tim, I just want to go back to the comment about selling Ruzzy mortgages. You had talked about that. last quarter, but Resi Mortgage was a pretty strong quarter for loan growth this quarter. And I'm just wondering, is that kind of happened towards the end of the quarter and it'll accelerate from here in terms of originate and sell?
spk15: I think a lot of that growth that you're seeing was already in the pipeline. It's not unusual to take 16 to 90 days from the date of application to getting the loan actually closed and funded. So a lot of what you've seen for this quarter was really a carryover from the prior quarter. And I think you'll see more moderation going forward, if that makes sense.
spk08: Yeah. No, it does. Thank you. And then can I just ask about what you're seeing in terms of credit quality within commercial real estate, particularly multifamily and office. There's been a number of articles talking about office pressure, particularly in the Texas market.
spk15: We have seen very few problems up to this point in time. Really, almost none. And I think there are a few obvious reasons for that. if you take office first, we typically have done owner-occupied as opposed to non-owner-occupied. And the projects that we've been involved in have been reasonably small, two- to three-story-type facilities. So we're really not in the large, non-owner-occupied office markets. really never have been. So that has insulated us somewhat from the problems that you've referred to in office. And in terms of multifamily, we've always tried to be very careful, obviously with any loan, but certainly with multifamily. And I think our way of weeding through those opportunities and checking them out has benefited us. So far, the developers that we've done business with have got pretty decent projects and are holding their own. There continues to be growth in our markets in terms of population. So that certainly hasn't hurt the multifamily piece of it. So I think it's stable right now. And I don't see any reason to think that that's going to change overnight. Obviously, from a macro standpoint, out there in the world, so to speak, there are a lot of disconcerting things. But most of those really don't directly affect the markets that we're in in Texas and Oklahoma. And we just don't see a big change in that anytime soon. So we think it's pretty stable going forward.
spk08: Great. And one last question. Credit obviously is very strong. You have nice reserve coverage to non-performing loans. How much longer can you take a zero provision expense, do you think?
spk15: Well, I'll make a quick comment. A lot of that reserve is based on what we call environmental factors. And I mentioned it just a minute ago in what I was saying. There is some weakness out there in the world. And there's some things to be concerned about. And do those end up affecting us more than they have today? Who knows? But that possibility is there. You ask about, and I mentioned the office market. It's a pretty good example. If you look at the statistics, they're not good. And does that tend to creep into other segments? We don't know. But we're trying to be prepared for the future in a reasonable way. And we think that per our models and all of our calculations, we think where we are right now on the reserve is appropriate. And I wouldn't see any significant change anytime real soon on that. So we're not expecting to take money out of the reserve. We don't see any huge additions to the reserve either based on what we see right now. So I think we're We feel comfortable with where we are, and we think it's steady as it goes for a little while.
spk16: I think most banks, Peter, probably there's not many banks probably carrying a remounted reserve like us at 1.7% reserve compared to the losses that we've had historically. So I think when Tim's referring a lot to the environmental factors, probably, you know, there's probably a big piece, and there is a larger piece in our reserves for the environmental factors. where a number of banks a year or two ago were pulling money out of the reserve and putting back into income. We never did that. We've left that money. So we really don't like to play with that, you know, taking money in, putting money out at different times. We like to be pretty consistent. So we do feel we're well-reserved and we shouldn't, I don't see putting money in, you know, unless something catastrophic happens, I don't see us putting money in for the next 12 months, that's just me.
spk05: Great. Thanks, David.
spk12: The next question comes from Brandon King with Truist Securities. Please go ahead.
spk03: Hey, good morning. Good morning. Good morning.
spk10: So, you know, industry is experiencing a softer revenue growth outlook next year, although not as much the case for prosperity. But I just wanted to get your thoughts on how you're thinking about expense growth next year. I know a lot of other banks are announcing initiatives and restructurings, but I just want to get a sense of what you're thinking about how you want to manage expenses going forward.
spk13: So, Brendan, in the short term, I'll talk about the fourth quarter. I think it's going to be in line with what we had in the third quarter. As I mentioned, it's $134 to $136. But if you go out for 2024, I think with the inflation rate, environment we are right now and we do our, you know, merit increases annually. So I would expect for next year probably two to three percent expense growth, you know, but we have a lot of initiative. We're trying to automate a few things, but nothing significant, you know, that would, but we're trying to mitigate the cost. But if I had to get guidance for next year, that would be two to three percent increase, but that's not including the special FDIC assessment that's going to come in in the First quarter, that's excluding that special assessment. So I would say 2 to 3%.
spk16: And how much is that FDIC?
spk13: So I think based on our initial calculations, it's going to be $10 million annually. $10 million annually. Yeah, on the special FDIC assessment. In addition, we already had assessment in 2023, which is costing another $10 million.
spk16: So really you're talking about an extra $2.5 million or so a quarter.
spk13: Yeah, $2.5 million per quarter expenses. That's on the FDIC assessments.
spk10: Okay, that's very helpful. And then lastly for me, I'm sorry if I missed it already, but what are you expecting for security cash flows and maturities over the next 12 months?
spk13: So our cash flow, it's about 2.1 billion next 12 months.
spk16: That's on the security.
spk13: On the security.
spk16: On the loans.
spk13: I'm sorry, on the loans, it's about 5 billion.
spk05: But again, some portion of that. Okay, sounds good. Thanks for taking my questions.
spk12: The next question comes from Manan Gosalia with Morgan Stanley. Please go ahead.
spk14: Hey, good morning. Thanks for taking my question. Can you give us some more detail on the fixed rate loan repricing dynamics that you're expecting from here? I know you mentioned 65% is fixed to variable rate loans repricing about 3-ish percentage points higher. but how much of the loans in dollars or in percentage are set to repay between now and the end of next year? And how does the increase in duration as a result of higher long-end rates impact that repricing dynamic?
spk13: So then when we looked at the $5 billion, that is including all the duration we have already in our loan portfolio, And from the cash flow, I would say maybe a little bit higher in the first half than second half, but essentially the cash flow would be evenly. If you look back in the, I would just give you numbers, what happened last three quarters, and maybe that gives you some information. It's like in the Q1, we had $1.3 billion. In Q2, we had $1.5 billion. And in Q3, we had $1.4 billion. So based on that cash flow, you can see that the actual cash flows, you can see that that's going to be evenly distributed over 12 months.
spk14: And that's loans repricing about 3 percentage points higher?
spk13: On the fixed and variable loans, yeah, that's 65% out of $5 billion. That's the repricing by an additional 3%, but floating is floating, so it's... It's already repriced. Yeah, it's already repriced.
spk14: Sorry, I meant the numbers you gave for the last three quarters, were all of those repricing three percentage points higher, or was it only half of that, or can you help us think through that?
spk13: I think that's the same percentages.
spk02: 65% of that $1.4 or $1.5 billion is a fixture variable that is repricing higher. The other 35%
spk13: floating. The composition is very similar to what we had experienced cash flows and what we expect.
spk14: Got it. And as we think through your model for NIM to improve over a 6, 12, and 24-month time frame, how much of that improvement is coming from the securities maturing and paydowns in high-cost funding versus repricing in loans?
spk13: I would say this model that we disclosed, that fixed balance sheet, static balance sheet, what we have, that's getting, you know, we have 2.1 billion on the bond portfolio and 5 billion on the loans. So, And that's assuming also just make sure that model assumes that, you know, deposit static stays flat and there's no significant repricing in the deposit cost. But, you know, with the competition and all that, you don't know where we're going to be, but that's our model. So that's a variable we use.
spk16: I mean, basically what we're saying is everything's static, the amount of money in federal home loan bank, amount of loans, amount of deposits. This is just repricing and duration changes that bring this net interest margin up. That's correct.
spk14: Got it. That's very helpful. And if I could just get a clarification, I think in the prepared comments, you mentioned that if rates increase more than you anticipate, that NIM trajectory could change. Does that mean that if rates are higher than you anticipate, then the NIM would be higher because of the repricing dynamic? Or Would it imply it would be lower either because of duration or because of deposit repricing?
spk13: I mean, our balance sheet, we are pretty neutral on that standpoint. So if longer, the rate stays higher, it's beneficial for us because it's longer time for our assets to reprice. But on the deposit, I think we assume what we have right now is a little bit just repricing of maturity. But other than that, we don't have any additional increases in the deposits.
spk16: I can make an overall statement that higher rates or lower rates, we still have the three, still significant increase in net margin where it does affect you, at least what I'm looking at in the model, is more in the short term on the six and 12 month time horizons. So if you look at a 12 month, you actually might do better. You might do better. Down 100 then you are if they stay the same on the other hand over 24 months. We still do better Interest rates going up or down 300 basis points. Yeah, I know it's kind of complicated Yeah, it is.
spk13: I mean if Fed cuts the race tomorrow benefit because our overnight borrowing gonna be repriced lower We actually do better
spk16: It looks like if they do cut – if interest rates went down 100 basis points, we actually do better, a little bit better.
spk14: It's very helpful.
spk16: Not much.
spk05: It's very helpful. Thank you.
spk12: The next question comes from Bill Karkash with Wolf Research. Please go ahead.
spk18: Hi. Thank you for taking my questions. as the debate continues around how long the Fed will keep rates higher for longer, do you think you have a good handle on which of your customers put on swaps a couple, say two to three years ago when we were still under ZERP and have so far been isolated from the impact of higher rates? Or are your customers not using swaps? Just curious how you're thinking about that sort of interest rate reset risk across your commercial customer base.
spk02: Yeah, this is Kevin. We don't, We don't have a ton of swaps on the books. In the early days when people were talking about swaps, we offered them a fixed rate just straight out for five years or seven years. And we can question the wisdom of that. Those are our repricing opportunities today. So the amount of swaps we have in the book is pretty negligible. Most of the client base we have is Generally, in our opinion, not sophisticated enough for swaps. We tend to do smaller middle market clients where you're educating them on swaps. The ones we have are larger companies, but we don't have a lot of swaps on the books.
spk16: There's really, I mean, you have some small ones, but most of our swaps are in the middle market lending, really, our larger customers.
spk02: Larger middle market clientele, but notionally, it's a couple hundred million dollars.
spk15: I think it's actually lower than that now.
spk02: You're right. One of them has recently paid off.
spk15: I think it's down below $100 million now.
spk18: Understood. That's really helpful. Following up on the comments that you made around the deposit base, maybe if you could just speak to whether you see any risk that maybe terminal beta expectations could have to drift a little bit higher next year if rates were to hold just at these current levels?
spk13: Yeah, I think you have to look at what the competition is doing. I think that's the main driver. I mean, if you stay rate for longer, it might impact it. But what we've seen last, I'll look at last few quarters, we had a, if you just look at cost of our deposit, has increased in the first quarter because of the rate environment. We had significant increase in the second quarter on our cost deposits. But in the third quarter, we actually saw the increase being less than what we had in the second quarter. So I think that we're optimistic that, you know, the increase in the deposit is going to slow down. Then we'll go further because I think everyone who want to reprice, they already took opportunity to reprice. And we believe it's going to slow down a little bit on the increase on the deposit level of increase. going forward.
spk02: I completely agree with what Ospek said. I said, if we use history as a guide, once the Fed pauses, it's not atypical for betas to continue to rise, but at vastly reduced rates. And they may rise for up to six months post-pause, again, at nominal levels. But it's not an immediate freeze when the Fed pauses. Got it. That's helpful. And then lastly, just one last point. We have a really, unlike a lot of banks of our size, we have a really pretty significant, what I would call smaller town retail deposits that seem to be a lot less sensitive to rates.
spk18: Understood. Yep. That makes a lot of sense. Finally, if I could squeeze in one last one. We've heard other banks talk about how positive operating leverage is going to be difficult to achieve next year. Maybe if you could just help us understand how you're thinking about positive operating leverage as you look to the new year, given all the moving parts. What do you mean by positive operating leverage? By the ability to grow your revenues faster than your expenses and effectively manage expenses for the revenue environment. So potentially cut expenses if revenues were to slow or have a little bit more room to to invest if revenue growth was stronger? Just the idea of managing expenses so that revenue growth outpaces expense growth.
spk16: I think that's the beauty of our whole bank. I mean, that's the whole story where everybody else is there almost maxed out because they're already taking advantage of the higher rates. We're just going to hit it. We'll just be going into our stride. So if even though we'll have higher expenses. And we probably manage expenses better than anybody, and we will continue to do that. But the beauty of this whole bank, really, is if the models work and everything goes, where everybody else is going to have that challenge, we should be doing much better.
spk02: Yeah, we're expecting some positive operating leverage. You know, our efficiency ratio, because of the NIM declines, largely have gone from, what, 42% to 48%. you know, as NIM returns and NII improves because of it, our efficiency ratio is going to drop back down to where our normal level is, low 40s, where we normally play. And that's really just a function of this, you know, kind of late-stage asset repricing that we have.
spk18: Once the Queen Mary turns, we'll be doing better. Understood. That is super helpful. Thank you so much. Appreciate it.
spk12: The next question comes from Brody Preston with UBS. Please go ahead.
spk07: Hey, good morning, everyone.
spk11: Good morning.
spk07: I just wanted to clarify something on the expense guidance. I think you said 2% to 3% for next year, excluding the special assessment. Is that inclusive of Loan Star, or would Loan Star be additive to that expense guide?
spk13: That was a core number I was giving. A Lone Star will be added on top of it.
spk07: Got it. Thank you for that. And I know it's challenging, but, you know, if you had to kind of hazard a guess, you know, for our modeling purposes, when do you think we should layer Lone Star in from a closing timing perspective?
spk02: I'd say it's hard to say. We're hoping sooner rather than later. Our latest extension with them is through March 31st. Right. So I think both companies are focused on getting it done before then.
spk07: Got it. Thank you for that. And I did just want to clarify on the timing of the cash flow from the securities book. Is that pretty even as well? So about $500 million a quarter moving forward?
spk13: Yep, that's even.
spk07: Got it. And just given that you have... seasonal muni strength through the fourth quarter and the first quarter. Typically, you know, I think it was said earlier you could pay down more deposits. Is there any thought to maybe just keeping a little bit of that left over in cash, you know, just for the eventual third quarter kind of runoff a little bit next year so you don't have to take up borrowings next year in case you do get that 3Q runoff of muni?
spk13: Yeah, I think we'll, you know, definitely the cash coming in from the muni public funds will probably keep it, but we don't know how long they're going to keep it. Probably not long term. So from that standpoint, we're not going to be investing. But yeah, I think we'll keep it small part same. I don't think we're going to increase significantly or increase significantly our cash.
spk16: We don't. I mean, the bottom line is we don't want to be borrowing $4 billion. Our bank historically, we've never, I guess if you go back, we It's not uncommon to see as a billion or two billion, but we don't like being four or five billion.
spk07: Got it. Understood. I appreciate that. And so at what point, I guess, from the securities roll-off perspective, would you think about maybe reinvesting some of those cash flows? Is it kind of once borrowing gets back down close to zero? I'm just trying to think about when the yield on that portfolio could start to pick up again.
spk16: Right now, I see all the payments being going to reduce our debt. So I don't see, ask me in a couple of quarters, maybe. I think the money's probably spoken for for a while here, I think, instead of reinvesting. Yeah, I think we're going to continue just paying down the borrowing at this moment. And loan demand's going to be a factor in that.
spk15: Well, that's true.
spk16: Yeah, that's true. I mean, the loan demand, even though we've tried to moderate it, we've tried to cut it down, you know, we may decide if the pricing does get good and we're finally getting terms and conditions that we like, we may want to increase that. So that's a good point, Tim.
spk07: Got it. Okay. And sorry to stay kind of in the weeds here, but, you know, any thought given to when you do decide to start reinvesting, maybe putting some of those securities on as AFS just to give you more flexibility in the future than the HTM book gives you?
spk16: No.
spk07: Got it. Thank you. And I do also just want to ask, you know, I noticed that there was some strength from First Capital on the deposit side, you know, when I was looking at the press release. Anything specific that drove that?
spk02: I think right at quarter end, they had a customer that sold his business and was a pretty good-sized chunk of money. Most of that money has subsequently moved off the balance sheet.
spk07: Got it. And then this is my last one. I just wanted to try the buyback question a little bit differently. You know, David, I just pulled up, you know, the price to tangible book chart on SNL and, you know, hit max just to get a long-term view. And this is at least per SNL's history, the cheapest your stock has ever been on price to tangible book value. And so if you do get the clarity that you're looking for in terms of whether or not HTM is going to be included in capital, and as you noted, it doesn't feel like the winds are blowing that way right now, how aggressive would you be on the buyback? I think you've got, you know, 3.4 million shares left in the existing authorization. That expires in January. I assume you'd re-up that, but you just got a lot of capital. The stock's very cheap. And so once we get that clarity, would you look to be more aggressive than even perhaps you've typically been in the past?
spk16: I mentioned earlier, I think this is the best price that we've ever had that anybody could buy in right now into our stock. So I think we would be interested in purchasing more. On the other hand, a lot of it depends on possible mergers and acquisitions at the same time too. So we have to keep both of those into consideration, I think. Do we really think is it better to buy our stock back or can we make more money by buying or acquiring another bank? And so I know that's hard and it's not giving you what you need, but those are really truthfully, both of those go hand in hand of how much stock we can buy back and how much I really don't think that we're going to be impacted by the HTM number. I don't think, I mean, the Fed themselves have a trillion 200 million loss on their balance sheet. So it'd be hard to spank somebody else when we've got such a, when the Fed's got such a big loss, but, and they know that time will work that out. So I do, I don't think that's going to be an issue. So I think, I think once we do find out really where regulatory is going to be, we would be more interested in buying our stock, especially at these prices. But again, we still, We're constantly in talks with other banks at the same time, too, and that would impact that.
spk02: It'd be a fair statement to say that when we look at buying another bank, particularly a bank of size, we look at tangible book value earned back on that transaction versus a buyback. And we do realize there's not much integration risk on doing a buyback, so it's a safer bet. So you'd be willing to suffer you know, more dilution on your own deal than you would on buying another bank.
spk16: And what's different this time, I think, in M&A than it's ever been before, when you're looking at acquiring or merging with a bank, banks have losses in their portfolio. So instead of being net capital positive, just what somebody recommended at the beginning of the call, why don't you all take some of your capital and redo your bond portfolio? We're not willing to do that, but in a merger, in acquisition, You've got to market to market. So you're going to mark their capital down, which would bring the overall capital down, although we will get that money back really quickly. So those are just the considerations.
spk07: Yeah, I would just think that just given the experience with Lone Star, you know, for a relatively simple deal, and it's been extended, you know, due to factors that, you know, are outside of your control and may not be warranted. Um, you know, it just seems like the buyback, you know, which is something that I know your shareholders, uh, would like would be the, the, the safest and easiest route. So you're not kind of tied up with, you know, with a merger. Um, but I appreciate it.
spk16: If there's nothing else, we'll buy back or stop. Let me say that. Got it. Thanks guys.
spk12: The next question comes from Matt Olney with Stevens. Please go ahead.
spk06: Hey, thanks, guys. Just following up on the time deposits. Also, Beck, do you have any color on those time deposits being rolled over here in the near term, just the dollar amounts and the prices, the yields coming off that?
spk13: Yeah, I mean, we introduced our seven-month special CD program seven months ago. So we see those rolling over, and we see a good level of renewal on that one. And I mean, but from the growth, we don't see as much of an increase in the growth what we saw in the first two months of it. From dollar-wise, man, I think I need to get back with you.
spk16: I don't have specifics on the... And how much is in that we sold in that product? That 1.5. I think 1.7. Yeah, not a billion and a half. A billion and a half, a billion and seven, something like that, yeah. Yeah. And we don't have hardly any CDs that go beyond two years. Well, our total CDs are what right now? I doubt that they're under 10% of our... It's about 12%.
spk13: Higher than 10%, but that only grows, so we see that is in that seven-month special program, and they're just renewing it.
spk16: But over time, if rates stay higher, I think you will see the percentage of CDs to other deposits continue to grow. I remember before rates went to zero, it wasn't uncommon for a bank like us to have 20% or 30% of their money in certificates of deposits. So over time... I think you could see that change for sure.
spk13: Yeah, Matt, I did confirm it's $1.5 billion on the seven-month specialty. Right.
spk06: Okay. Thanks for that. And then on the $4 billion borrowing position, any color on the duration here? I assume most, if not all, these are eligible to be paid down in the near term?
spk13: Yeah. Essentially, we have a $3 billion from the Fed that we can pay off any time, and the rest of them will FHLD overnight pretty much. All $4 billion can be paid off in a day if we need to. Okay, perfect.
spk06: And then on those cash flows you mentioned also, Beck, the $2.1 billion that you expect over the next 12 months, any color or commentary you can give us as far as the yields on those maturities?
spk13: Yeah, exactly. It's exactly pretty much the same what our portfolio shows, around 2%. Okay, got it.
spk06: Okay, that's all from me. Thanks, guys.
spk12: The next question comes from John Arfstrom with RBC Capital Markets. Please go ahead.
spk00: Thanks. I hope I'm last. I hope I'm the last one.
spk16: We hadn't heard from you for a while. We thought you quit loving us. Oh, no.
spk00: There's love, David. 20-year. 20-year love. 20-year. Yeah, real quick, the $10 billion, a little over $10 billion in non-interest-bearing deposits, do you feel like is that a floor? Is it over in terms of the non-interest-bearing outflows?
spk16: You know, the first – anybody would like to say yes, that it is, but we really don't know that. I think that if interest rates stay high – you know, when I see money moving, you know, normally you would think – it's because our money market rate, we're paying about 3%. That's if you have over, what, a million dollars in it or something, or $100,000? For the 3%, yeah. A million? $500,000, okay. So you would think that maybe that's where the money would be leaving from to go to buying these treasuries and that, but when I really look at it, you know, we have another, not only the $10 billion that we have in non-interest-bearing, we have another, how much in... interest-bearing checking is paying 15 or 25 basis points, a huge amount of money. But those are the two categories that I actually see go. People are, you know, they're just starting to work their money more. So I guess the answer to the question is, in and by itself, I think you probably will see, we will see money come out of those accounts buying either higher rate CDs or going to buy Treasuries. At the same time, hopefully, You know, our bank historically, John, has grown the bank 2% to 4% a year organically in deposits. And of course, you hadn't seen that at all. So I'm hoping, this is just a gut feel, is that, you know, we will start, maybe at some point, we'll turn around and start building that bank again and offset what's really going on. But people, the bottom line, people are working their money. This is interesting because I asked Oswebek to look into it. You know, our bank, Historically, before you had all the helicopter money drop, we would grow the bank 2% to 4% organically every year on deposit side. And then, of course, you had 10% to 20% gains with helicopter money. But also went back and took all the money that we've lost and taken out the money that came from the acquisition of First Capital. And believe it or not, today, if you would have never had the helicopter money, we're kind of about in the same place. We're still have grown about 2% to 4%. So whether it looks like a lot of the money has left the bank, if you wouldn't have had it to begin with, all the helicopter money, we're probably right where we would have been to begin with. I know that's getting kind of esoteric, but we really wanted to look at that. So I think the future is we'll still get back to that other category too. You will see banks in the future start going to pause again organically, I think. at some point in time.
spk00: Okay. Just two more random ones. FTEs were up 140 employees. I normally wouldn't ask about it, but that's more than normal. Is that acquisition-related, or what's driving that?
spk13: Yeah, I think because acquisition had impact on it, because FTEs are on average, so that's had three months of people from the SCB acquisition that's impacting.
spk16: I think you have that, but you also have The regulators are pushing harder for data governance. They're pushing harder in BSA. They're pushing harder in compliance. I think you're seeing all of that. Now, some of that can probably be offset by the mortgage department. The mortgage, I think we're letting people go or reassessing them in the mortgage department. So, you know, we might be able to offset that. But part of that is just regulatory burden, too. As you get bigger and bigger, the regulatory burden, nobody would believe it. It's just crazy.
spk00: Sure. Yeah, that's what I was getting at. That's what I was wondering. I remember you saying once, David, you had, after the financial crisis, 20 new employees working for the government, but they were on your payroll instead of the government, something like that. Yeah, which was just 20 now.
spk16: Probably over 200 now.
spk00: Okay. And just one more, and this can be quick, but on credit, it sounds like you're not seeing anything, but I'm curious, do you guys expect a credit cycle for the industry to when you look around and you look at your peers and you look at some of the loan proposals that you're making, you know, to take loans from other banks, do you guys expect the credit cycle?
spk16: To me, I mean, I'll be the first to answer, because these other guys can answer too, but I think the credit cycle is probably going to be more regional in nature. I think that if, you know, I think if you're in San Francisco or New York and you have populations that are moving out, I think those are going to probably be impacted, especially from the office space and more so than ... What we're seeing in Texas and Oklahoma, A properties don't seem to be affected at all. In fact, if anything, more people are moving to the A properties. It's really the B and C properties that are impacted. The bigger charge off that we had last quarter or so really came from a three deal office deal that we had that really never was past due and maybe we jumped the gun and just sold it too quick. We always like to get rid of our problems right away. So I think you do see that seasonally popping up. I do think that from the first capital bank that we acquired, we do see some problems. They're not really commercial real estate office problems. They're more in, what, nursing home, Randy? A couple of nursing homes and stuff. Yeah, acute care, spotty retail. So we see that. So I think a lot of it has to do with the underwriting and the risk that the banks took, too. But it also comes from where you're located, I think. your circumstances around you add a lot to it. So I think the banks that had good underwriting are located in growth states are going to be fine. The banks that have good underwriting in states where they're seeing outflow, they probably will be fine too. But the banks that historically have had bad underwriting, they're going to be bad in both of those scenarios, regional and I think it's just going to always go back I think it's going to go back to your underwriting, really. That's just me.
spk05: All right. Thanks for the time. I appreciate it.
spk12: This concludes our question and answer session. I would now like to hand the call back to Charlotte Rasche for closing remarks.
spk01: Thank you. Thank you, ladies and gentlemen, for taking the time to participate in our call today. We appreciate your support of our company, and we will continue to work on building shareholder value.
spk04: The conference has now concluded. Thank you for your participation. You may now disconnect your lines.
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