Civista Bancshares, Inc. (NASDAQ:CIVB) Q3 2023 Earnings Call Transcript

Civista Bancshares, Inc. (NASDAQ:CIVB) Q3 2023 Earnings Call Transcript October 27, 2023

Operator: [Starts Abruptly] Before we begin, I would like to remind you that this conference call may contain forward-looking statements with respect to the future performance and financial condition of Civista Bancshares, Inc. That involve risks and uncertainties. Various Factors could cause actual results to be materially different from any future results expressed or implied by such forward-looking statements. These factors are discussed in the company’s SEC filings, which are available on the company’s website. The company disclaims any obligation to update any forward-looking statements made during the call. Additionally, management may refer to non-GAAP measures, which are intended to supplement, but not substitute the most directly comparable GAAP measures.

The press release, also available on the company’s website, contains the financial and other quantitative information to be discussed today, as well as a reconciliation of the GAAP to non-GAAP measures. This call will be recorded and made available on Civista Bancshares website at www.civb.com. At the conclusion of Mr. Shaffer’s remarks today, he and the Civista management team will take any questions that you may have. Now I will turn the call over to Mr. Shaffer.

Dennis Shaffer: Good afternoon. This is Dennis Shaffer, President and CEO of Civista Bancshares, and I would like to thank you for joining us for our third quarter 2023 earnings call. I am joined today by Rich Dutton, SVP of the company and Chief Operating Officer of the Bank; Chuck Parcher, SVP of the company and Chief Operating Officer of the Bank, and other members of our executive team. This morning we reported net income for the third quarter of $10.4 million or $0.66 per diluted share, which represents a 6.5% decrease from the third quarter in 2022. And net income of $33.3 million or $2.12 per diluted share for the nine months ended September 30, 2023, which represents a 22.1% increase over our first nine months of 2022’s performance.

Our strong third quarter and year-to-date performance was set up by continued growth in our loan and lease portfolios, which grew at an annualized rate of 18% for the quarter and 10.9% year-to-date. This was organic growth and I believe is indicative of the strength of our markets and our organization. While we do not anticipate continuing to grow at this pace, we do anticipate continued growth at a single-digit pace for the balance of the year and into 2024. This growth in the higher rate environment led to higher net interest income for the linked quarter and year-to-date, which translated into record net earnings, which were up 22% over the same period in the prior year. In the face of funding pressures, our margin compressed, albeit at a slower pace than the previous quarter, coming in at 3.69% for the quarter and 3.88% year-to-date.

Our yield on earning assets increased by 3 basis points during the quarter to 5.34% and was 5.29% year-to-date. However, the cost of funding our balance sheet increased by 21 basis points during the quarter to 1.72% and was 1.47% year-to-date. During the quarter, we continued our measured approach to increasing rates paid on some of our higher tiered demand deposit accounts and select CDs. This led to an increase in our cost of deposits, excluding brokered by 18 basis points to 0.67% during the quarter. All in, our funding costs increased by 21 basis points from our linked quarter to 1.72%. During the quarter, we experienced what has become our typical decline in total deposits, which were down $147 million for the linked quarter. I say typical because the decline was due to the seasonality of the deposits related to our tax business, which were down $187 million for the linked quarter.

As we noted in our earnings release, we made the decision during the quarter to step away from our income tax refund business for 2024. Since the first quarter of 2021, when we mistakenly received $5.6 billion in stimulus payments from the U.S. Government, we began receiving an increased volume of complaints from taxpayers looking for their stimulus payments. Since then, the amount of information required by our regulators to close out each complaint has increased. While our business partner TPG handled the brunt of the research related to these requests, it has become apparent that our regulators view of the program is changing and we felt it better to step away before it became something that might inhibit future M&A activity. We will look to our new leasing division, other revenue opportunities, and tighter expense controls to help us replace this lost revenue next year and into the future.

Yesterday, we announced a quarterly dividend of $0.16 per share. This is consistent with our prior quarter dividend and represents a 24.2% dividend payout ratio based on our year-to-date earnings. Our efficiency ratio for the quarter was 66.5%, compared to 67.9% for the linked quarter and 65.5% year-to-date. However, if we were to back out that depreciation expense related to our operating leases from our new leasing company, our efficiency ratio would have been 62.6% for the quarter and 61.7% year-to-date. Our return on average assets for the quarter was consistent with our linked quarter at 1.12% and our return on average equity was 11.83% for the quarter, compared to 11.58% for the linked quarter. Year-to-date, our return on asset was 1.24% and our return on equity was 12.88%.

During the quarter, non-interest income declined $1 million or 11.2%, in comparison to the linked quarter and increased $2.4 million or 41.7%, in comparison to the prior year third quarter. The primary drivers of the decrease from our linked quarter were declines in lease residuals, fees from our income tax refund processing program, and other non-interest income. Consistent with prior years, income from our tax program is earned during the first and second quarters. The primary driver for the increase over the prior year’s quarter was $1.9 million in lease revenue and residuals generated by our leasing division. Our leasing division and that revenue stream were not a part of Civista until the beginning of the fourth quarter in 2022. Year-to-date, non-interest income increased $9.3 million or 49.1% in comparison to the prior year.

The primary drivers of this increase were $6.2 million in lease revenue and residual fees from the addition of our leasing division in 2022. These fees are primarily made up of operating lease payments and gains on the sale of equipment at the end of the lease term. Also included in other non-interest income was the $1.5 million bonus, we received for entering into a new debit brand agreement during the first quarter and $707,000 in interim rent payments generated by our leasing division that we did not have in the prior year. Wealth management revenues for the quarter were consistent with the linked quarter and declined slightly year-to-date, compared to the prior year. While we anticipate that market uncertainty will continue for some time, we continue to view the expansion of these services across our footprint as an opportunity to diversify and grow non-interest income.

Non-interest expense for the quarter of $26.8 million, represents a 4.2% decline from our linked quarter as we experienced improvement in nearly every line item of non-interest expense. Year to date, non-interest expense increased $19.1 million or 30.2% over the prior year. Much of this increase is attributable to growth from our acquisitions of Comunibanc and VFG in the third and fourth quarters of 2022. Our compensation expense increased $7.5 million or 40.4% over the prior year. The bulk of the increase is due to $6.1 million in additional salaries, commissions and benefits attributable to new employees from last year’s acquisitions. The balance of this increase is attributable to normal benefit and merit increases. While we do have seven additional branch offices as a result of our Comunibanc acquisition, the $7.2 million increase in occupancy and equipment expense was primarily due to an increase in depreciation expense on equipment related to our new leasing division.

A woman signing papers with her banker for her first home mortgage.

Equipment under an operating lease is owed and depreciated by Civista until the end of the lease term. Depreciation related to operating leases was $6.1 million year-to-date. The increase in other non-interest expense was primarily due to a $595,000 provision for credit losses on unfunded loan commitments that was a new expense category resulting from our adoption of CECL in January. Like many in the industry, we experienced an increase of $353,000 in bad check losses year-to-date. We also experienced $608,000 of increases in a number of other expense categories related to our new leasing division. Turning to the balance sheet, year-to-date our total loans have grown by $208.2 million, which includes $32.9 million of loans and leases originated by our leasing division.

This represents an annualized growth rate of 10.9%. A number of banks in our markets have curtailed their lending efforts, which we view as an opportunity. Opportunity for new and expanded lending, opportunity to increase our spreads on those loans, and opportunity to require new and increased compensating deposit balances. While we experienced increases in nearly every loan category, our most significant increases were in non-owner occupied CRE, residential real estate loans, and lease financing receivables. The loans we are originating are virtually all adjustable rate loans and our leases all have maturities of five-years or less. Loans secured by office buildings make up 5.5% of our total loan portfolio. These loans are not secured by high-rise office buildings, rather they are predominantly secured by single or two-storey offices located outside of central business districts.

Along with year-to-date loan production, our un-drawn construction lines were $239.5 million at September 30th. We anticipate loan growth to moderate to a low-single-digit rate for the balance of 2023 and into 2024. On the funding side, total deposits increased $175.8 million or 6.7% since the beginning of the year. However, if we were to back out non-core tax program and broker deposits, our deposit balances decline 1% year-to-date, when compared to what we are seeing across the industry, we believe this illustrates the strong relationships we have with our commercial and retail customers. Our deposit base is what we would term as fairly granular with an average deposit account excluding CDs approximately $26,000. Non-interest bearing demand accounts continue to be a focus, excluding tax related and broker deposits, non-interest bearing deposits made up 30.2% of the remaining total deposits at September 30th.

With respect to FDIC insured deposits, excluding Civista’s own deposit accounts and loans related to the tax program 14.5% or $404.5 million of our deposits were in excess of the FDIC limits at September 30th. Our cash and unpledged securities at September 30th were $430 million, which more than covered these uninsured deposits. Other than $361.1 million of public funds with various municipalities across their footprint, we had no concentration in deposits at September 30th. At September 30th, our loan to deposit ratio, excluding deposits related to our tax refund processing program, was 101%. As I mentioned, we are having success requesting additional deposits and compensating balances from our commercial customers. And we will continue to be disciplined in how we price our deposits and we will take advantage of broker funding when we think it makes sense.

We believe our low cost deposit franchise is one of Civista’s most valuable characteristics, contributing significantly to our strong net interest margin and overall profitability. At September 30, all of our $595.5 million in securities were classified as available for sale and had $93.1 million of unrealized losses associated with them, which puts pressure on our tangible common equity. At quarter end, our tangible common equity ratio had declined to 5.5%, as compared to 5.83% at December 31, 2022. Despite this decline, our Tier 1 capital ratio at September 30 was 8.79%, which is well above what is deemed well-capitalized for regulatory purposes. So this is strong earnings, continue to create capital, and our overall goal remains to maintain adequate capital to support organic growth and potential acquisition.

We continue to believe our stock is of value and as such we’ve resumed our repurchase program during the third quarter. During the quarter, we’ve repurchased 84,230 shares of common stock for $1.5 million, with an average price of $17.77 per share. This represents all of our repurchase activity year-to-date. We have an authorization of approximately $12 million remaining in our current repurchase program. While our capital levels remain strong, we recognize our tangible common equity ratio screens low and will balance our repurchases and the payment of dividends with building capital to support growth. Despite uncertainties associated with the economy and the expense pressures our borrowers face, our credit quality remains strong and our credit metrics remain stable.

We did make a $630,000 provision during the quarter, which was primarily attributable to loan and lease growth. Our ratio of allowance for loan losses to loans improved from 1.12% at December 31, 2022 to 1.28% at September 30, reflecting growth and our adoption of CECL during the first quarter. In addition, our allowance for loan losses to non-performing loans increased from 261.45% at December 31st, 2022 to 308.52% at September 30th. In summary, although we experienced margin compression, we continued to generate strong earnings, and our margin remained strong. While we experienced exceptional organic loan growth during the quarter, we anticipate a slowdown in loan growth as we finish out the year. While we continue to examine and stress our portfolios, we have seen no material deterioration in our credit quality.

Our focus continues to be on creating shareholder value, which is evidenced by the year-over-year increase in our earnings per share, and hopefully will eventually be rewarded. Thank you for your attention this afternoon. And now we’ll be happy to address any questions that you may have.

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Q&A Session

Operator: We will now begin the question-and-answer session. [Operator Instructions] The first question comes from Nick Cucharale with Hovde. Please go ahead.

Nick Cucharale: Good afternoon everyone, how are you?

Dennis Shaffer: Good. Hi there. Welcome back Nick.

Nick Cucharale: Thank you. Just wanted to clarify the loan growth outlook, are you suggesting that early indications are for a slowdown in loan growth for 2024 to a low-single-digit pace? Did I hear that correctly?

Rich Dutton: Yes, I’d say low to mid-single-digits. I would say, you know, ballpark 5%, maybe Nick from that perspective, somewhere in that range, I would think. We’re seeing, obviously, long growth has been great. Our pipelines are really strong right now, but we’re starting to see some slowness from the economy.

Dennis Shaffer: And Nick I think some of it will be us being a little bit more selective, you know, we have to put our interest rates, we’re going to get our spread, because, you know, our loan to deposit ratio is so high. So we have to push our spread and, you know, those spreads are widening for us. So we anticipate that higher rate environment will slow lending activity as well.

Nick Cucharale: Yes, it makes sense. Just to pivot over to expenses, was there anything irregular in the results that drove the outperformance relative to the guidance and any sense of where that may shake out in the fourth quarter?

Dennis Shaffer: I don’t know if I’d use the term irregular, but yes, I think in the fourth quarter what we did, we had a — I think it was, we’re self-insured for health insurance. And it’s harder for us not to do what the actuaries tell us to do until we close to the end of the year. And our employees tend to be a little more healthy, I guess, than what the actuaries thought they were going to be. So we backed out. That was the big, I guess, decline in the compensation number in the fourth quarter, was that — we’ve kind of reduced the accrual, Nick, on health insurance. I think, I told you guys $28 million would be a run rate last quarter. It looks like you guys heard me. I would tell you that a good rate for the fourth quarter is probably $27.5 million.

I don’t know that I would want to go into next year. There’s a couple of things going around, but I think that’s a good number for the fourth quarter. And it won’t be a whole lot different than that. Again, we do raises, mirror raises, the first part of April, so that they’re not really impacted in the first quarter. And we’ve got some pretty favorable pricing on our health insurance, the reinsurance piece of it, that we use to kind of base our expense on. In fact, we had no increase during that renewal, which I thought was kind of phenomenal. But anyway, those are the big things, Nick.

Nick Cucharale: Yes, that’s great, Coller. Historically, the fourth quarter is an especially strong period for the leasing business. Is your expectation that you see a material pickup in sales and lease revenue during the fourth quarter relative to the September period? And if so, can you help us quantify that impact?

Dennis Shaffer: We do anticipate it to increase. We were just on a call with them yesterday, Chuck. It looked like they’re going to double what they did in September. So…

Rich Dutton: I think we probably need to get back in there on a quantification number. But we do expect higher production and output for leasing division in the fourth quarter.

Nick Cucharale: Appreciate that. And then lastly, do you expect to take any charge, given your announcement that you’re going to be exiting the tax business?

Dennis Shaffer: No, no change. I mean, I need to just be that the revenue that we incurred, you know, or earned, I guess, in each of the first two quarters for the last number of years, that just goes to zero.

Nick Cucharale: Yes, [Multiple Speakers]