Signature Bank (NASDAQ:SBNY) Q4 2022 Earnings Call Transcript

Signature Bank (NASDAQ:SBNY) Q4 2022 Earnings Call Transcript January 17, 2023

Operator: Welcome to Signature Bank’s 2022 Fourth Quarter and Year-End Results Conference Call. Hosting the call today from Signature Bank are Joseph J. DePaolo, President and Chief Executive Officer; Eric R. Howell, Senior Executive Vice President and Chief Operating Officer; and Stephen Wyremski, Senior Vice President and Chief Financial Officer. Today’s call is being recorded. At this time, all participants have been placed in a listen-only mode and the floor will be open for your questions following the presentation. It is now my pleasure to turn the floor over to Susan Turkell, Corporate Communications for Signature Bank. You may begin.

Susan Turkell Lewis: Good morning, and thank you for joining us today for the Signature Bank 2022 fourth quarter results conference call. Before I hand the call over to President and CEO, Joseph DePaolo, please note that comments made on this call by the Signature Bank management team may include forward-looking statements that can differ materially from actual results. For a complete discussion, please review the disclaimer in our earnings presentation dealing with forward-looking information. The presentation accompanying management’s remarks can be found on the company’s Investor Relations site at investor.signatureny.com. Now I’d like to turn the call over to Joe.

Joseph DePaolo: Thank you, Susan. I will provide some overview into the quarterly results, and then my colleague, Eric Howell, our Chief Operating Officer; and my colleague, Steve Wyremski, our Chief Financial Officer, will review the bank’s financial performance in greater detail. Eric, Steve and I will address your questions at the end of our remarks. At the onset of 2022, we set several goals, including, one, the hiring of numerous private client banking teams and the colleagues necessary to support our geographic expansion, which we did with the hiring of 12 teams. This includes 5 in New York and 7 on the West Coast, of which 3 were in Nevada, marking our entry into that state. We also added hundreds of colleagues across various operational and support areas.

Two, launching the health care banking and finance team, which we successfully onboarded during the 2022 second quarter. Three, increasing our annual earnings, where we realized great success as evidenced by earning a record $1.3 billion in net income with a record return on common equity of 16.4%. Four, growing our loan and deposit portfolios substantially, although we grew loans by a strong $9.4 billion, 2022 presented deposit challenges. While we expected continued deposit growth, albeit not at 2020 or 2021 levels, 7 Fed hikes during 2022, totaling 425 basis points, coupled with quantitative tightening and the proliferation of off-balance sheet alternatives resulted in the most difficult deposit environment we have seen in our 22-year history.

The arduous rate environment, along with the challenges in the digital asset space led to deposit declines, which we overcame a little difficulty given our robust liquidity position. Please take note, thus far in 2023 we are already up $1.8 billion in total deposit growth. This is driven by an increase of $2.5 billion in traditional deposits, offset by a decline of $700 million in digital deposits. Now taking a closer look at earnings. Pretax pre-provision earnings for the 2022 fourth quarter were $451 million, an increase of $65 million or 17% compared with $385 million for the 2021 fourth quarter. Net income for the 2022 fourth quarter increased $29 million or 11% to $301 million or $4.65 diluted earnings per share compared with $272 million or $4.34 diluted earnings per share for last year.

The increase in income was predominantly driven by margin expansion due to rising rates, which led to strong growth in net interest income over the last 12 months. Now let’s take a closer look at deposits. With the frequency and severity of the Fed rate increases, the positive environment remains challenging. Total deposits decreased $14.2 billion or 14% to $89 billion this quarter, while average deposits decreased 4 billion Now let’s discuss the obit in the room. As a reminder, on December 6, at a conference, we announced our plan to purposefully decrease total deposits in the digital asset banking space by reducing the size of relationships. This strategy results in a more granular deposit base, which leads to greater stability in this funding source.

As part of the plan, we are focused on reducing high-cost excess digital deposits. Our strategy when is expected resulted in a decline of $7.4 billion in digital deposits. Prospectively, the bank will further reduce these digital deposits by an additional $3 billion to $5 billion by the end of 2023, however, most likely much, much sooner. Additionally, with the seventh Fed rate hike on December 15 and subsequent to the conference, we saw a large degree of rational pricing from competitors on traditional deposits. In general, we decided not to increase rates to these levels on deposits that have the highest rate sensitivity. As a result, $2.3 billion in high interest rate deposits left. Total contribution from both the digital asset reduction strategy and our decision to not match pricing on these rate-sensitive deposits aggregated to $9.7 billion of the deposit decline.

These are deposits that we intentionally managed out or manage low. There were several other factors that contributed to the traditional decline. Our mortgage banking and solutions team experiences seasonality due to taxes and escrow payments, which contributed $1.9 million to the overall decline. We expect this to build back up over the course of 2022. And 1031 Exchange commercial real estate transactions continue to decline industry-wide, and we saw a reduction to the tune of $1.2 billion. So there was a lack of CRE transactions and as a result, there will be less 1031 deposits available. During the quarter, noninterest-bearing deposits decreased $6 billion to $31.5 billion, which continues to represent a solid 36% of total deposits. The decline in DDA continues to be driven by the challenging rate deposit rate environment.

Before I turn the call over to Eric, I’d like to say that although 2022 was a tough year for deposits, we believe we are a growth story. And as we look beyond 2023, we firmly believe we will return to growing traditional deposits. Clearly, this is difficult given the current environment, but it remains a focus. It is encouraging to see inflows in traditional deposits of $2.5 billion thus far this year through January 13, as only after only 9 business days. Now I’d like to turn the call over to Eric.

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Eric Howell: All right. Thank you, Joe, and good morning, everyone. I’d like to turn our attention to our lending businesses. Loans during the 2022 fourth quarter increased $452 million or 1% to $74.3 billion. For the year, loans increased $9.4 billion or 15%. During the fourth quarter, growth continued to come from nearly all of our lending businesses with the exception of capital costs, which were down $2.1 billion as we left passive participation run off as they came up for renewal. Over the next several quarters, we are expecting measured growth out of our newer business lines, health care banking and finance and corporate mortgage finance as these teams are still strengthening their presence within their markets. Given the challenging deposit environment, we anticipate declines from our larger, more established lending businesses.

Overall, we plan to manage loan growth to be down in the coming quarters. Turning to credit quality. Our portfolio continues to perform well. Nonaccrual loans were down from $1 million at $184 million or 25 basis points of total loans compared with $185 million for the 2022 third quarter, and they were down $34 million when compared with $218 million for the 2021 fourth quarter. Our past due loans were within their normal range with 30 to 89-day past due loans at $96 million or 13 basis points and 90-day plus past dues at $55 million or 7 basis points of total loans. Net charge-offs for the 2022 fourth quarter were $18.2 million or 10 basis points of average loans compared with $10.2 million or 6 basis points for the 2022 third quarter. The provision for credit losses for the 2022 fourth quarter increased to $42.8 million compared with $29 million for the 2022 third quarter.

The increase was primarily driven by a deteriorating macroeconomic forecast. This brought the bank’s allowance for credit losses higher to 66 basis points and the coverage ratio stands at a healthy 266%. I’d like to point out that excluding very well secured fund banking capital call facilities, the allowance for credit loss ratio will be much higher at 105 basis points. Now let’s turn to the expanding team front. As we’ve said before, our core metric for us is the number of teams we onboard, and we continue to realize success in this area. During the year, the bank onboarded 12 private client banking teams, including 5 in New York and 7 on the West Coast, of which 3 of those teams were brought on in the state of Nevada. This marks the entry into a new geography for Signature Bank.

Additionally, our newest national banking practice, the health care banking and finance team was launched in the second quarter of this year. Notably, this is the third highest number of teams hired in any given year in Signature Bank’s history, which bodes well for future deposit gathering. And our pipeline remains strong. In order to support our team expansion, we continue to hire extensively throughout our operations and support infrastructure so that we can best serve our clients’ needs. At this point, I’ll turn the call over to Steve, and he will review the quarter’s financial results in greater detail.

Stephen Wyremski: Thank you, Eric, and good morning, everyone. I’ll start by reviewing net interest income and margin. Net interest income for the fourth quarter was $639 million, a decrease of $35 million or 5% from the 2022 third quarter and an increase of $103 million or 19% from the 2021 fourth quarter. The decrease in net interest income during the fourth quarter was driven by the outflows of our cash balances in support of our planned reduction in the digital asset banking deposits. This resulted in a smaller balance sheet at the end of the quarter. Going forward, we plan to keep our cash position in the $4 billion to $6 billion range, which is dependent upon deposit flows. Net interest margin on a tax equivalent basis decreased 7 basis points to 2.31% compared with 2.38% for the 2022 third quarter.

The lower margin was the result of the rise in our cost of funds, which is primarily due to the replacement of digital asset banking deposits with more expensive borrowings. Over the near term, the bank plans to pay down these borrowings as we see traditional deposit inflows, resulting in a lower cost of funds, which will ultimately be beneficial for margin. Let’s look at asset yields and funding costs for a moment. Interest-earning asset yields for the 2022 fourth quarter increased 73 basis points from the linked quarter to 4.18%. The increase in overall asset yields was across all of our asset classes and was driven by higher rates. Yields on the securities portfolio increased 45 basis points linked quarter to 2.53% given higher replacement rates.

Additionally, our portfolio duration decreased slightly to 4.23 years due to interest rates going back at the end of the quarter. Turning to our loan portfolio. Yields on average commercial loans and commercial mortgages increased 69 basis points to 4.82% compared with the 2022 third quarter. Increasing yields was driven by our portfolio repricing higher. Since approximately 48% of our loans are floating rate, we expect loan yields to continue to increase as short-term rates continue to move higher. In addition, given the longer duration of our fixed rate loan portfolio, we will continue to see these assets were priced higher even as the Fed ceases increasing rates. Now looking at liabilities. Given the 125 basis points of Fed moves this quarter, overall deposit costs increased 80 basis points to 1.91%.

The pace of the deposit repricing is in line with our expectations given the frequency and magnitude of the rate hikes. During the quarter, average borrowing balances increased by $2.3 billion to $4.5 billion, and the cost of borrowings increased to 3.80%. The increase in borrowings was driven by our planned reduction in the digital asset banking deposits, where we added mainly short-term borrowings. In the coming quarters, we plan to pay these borrowings down with excess liquidity from deposit flows and managed loan portfolio runoff. In fact, today, borrowings are $4 billion lower since quarter end given positive deposit flows and other initiatives. The overall cost of funds for the quarter increased 85 basis points to 1.99%, driven by the aforementioned increase in deposit costs and the addition of higher-priced borrowings.

On to noninterest income and expense. With our plan to grow noninterest income, we achieved growth of $11.8 million or 35.2% to $45.2 million when compared with the 2021 fourth quarter. The increase was primarily related to FX income and lending fees, driven by our newer businesses and geographic expansion. Noninterest expense for the 2022 fourth quarter was $233.3 million versus $183.9 million for the same period a year ago. The $49.4 million or 26.8% increase was principally due to the addition of new private client banking teams, national business practices and operational personnel as well as client-related expenses that are activity driven and has increased with the growth in our businesses. Despite the significant hiring and considerable operational investment, the bank’s efficiency ratio remained relatively low at a strong 34.11% for the 2022 fourth quarter versus 32.31% for the comparable period last year.

Turning to capital. Overall capital ratios remain well in excess of regulatory requirements and augment the relatively low-risk profile of the balance sheet as evidenced by a common equity Tier 1 risk-based ratio of 10.42% and total risk-based ratio of 12.33% as of the 2022 fourth quarter. Today, we are also announcing an increase in our common stock dividend by $0.14 per share to $0.70 per share starting in the first quarter of 2023. Our robust earnings profile generates over $1 billion in earnings a year, which is substantially more compared to when we first set the dividend in 2018. We have long-term confidence in the earnings power of our franchise and are happy to increase our dividend. Now I’ll turn the call back to Joe. Thank you.

Q&A Session

Susan Turkell Lewis: Thanks, Steve.

Joseph DePaolo: I’d like to point out that this is our first year in our 22-year history that we reported an annual decline in deposits. Given Fed actions, including quantitative tightening, coupled with the 7 rapid Fed rate hikes totaling 425 basis points, growing deposits has become very difficult. Growth for the sake of growth while ignoring the economics does not benefit our shareholders. Instead, we firmly believe that our decision not to chase a rationally priced high cost deposits as well as our decision to reposition our digital deposit book by reducing concentration will benefit our shareholders in the long run – in the long term. Our focus on this ecosystem was on concentration of deposits, not to lead the ecosystem.

Despite the short-term external challenges we face today, we continue to put the seeds in place for future growth with our plans for continued investment in our infrastructure as well as our geographic expansion through the hiring of the teams. These investments will inevitably lead to growth that within our differentiated operating model will lead to higher returns over time. The growing dividend to $0.70 should firmly indicate to our shareholders the confidence we have in our ability to generate substantial earnings over the long term. To conclude, 2022 was a year of many positives. We achieved the following, record net income of $1.3 billion and record return on common equity of 16.4%. And as I just mentioned, the earnings power is allowing us to increase our 2023 dividend while still maintaining strong capital ratios.

We had loan growth of $9.4 billion, not to mention 12 team hires with the expansion into the state of Nevada, the addition of another national business line, our health care banking and finance team. And we continue to perform with a best-in-class efficiency ratio of 34. 11%. Finally, yes, we have USD deposits of digital asset clients, but we do not invest, we do not hold, we do not trade and we do not custody crypto-assets. We only have deposits of clients in the crypto ecosystem- and we are executing on our plan to reduce these deposits significantly for the concentration purposes. In the future, our focus will remain on blockchain technology, which is the reason we decided to enter this space in 2018. We have many other traditional businesses whose positive results are being overlooked.

Now Steve, Eric and I are happy to answer any questions you might have. Shelby I’ll turn it to you.

Q – Dave Rochester: Hey. Good morning, guys.

Joseph DePaolo: Hey. Good morning, Dave.

Stephen Wyremski: Good morning, Dave.

Dave Rochester: I wanted to start on deposits. You mentioned you had $2.3 billion, I believe, in high-rate deposits left. Are you expecting those will flow out here in the next quarter or two at this point? Or have you already seen some of that flow out that’s actually baked into the quarter-to-date growth you mentioned?

Stephen Wyremski: I mean that was in the fourth quarter already, Dave.

Dave Rochester: Those in the fourth quarter. So how much do you have left at this point?

Stephen Wyremski: Not a lot.

Dave Rochester: Yes. Okay. What areas are you seeing the deposit growth end at this point quarter-to-date?

Joseph DePaolo: Well, there’s a number of areas we can start with – make my colleagues noises but we start with EB-5 that’s a source of deposits for us. We have about $281 million in deposits or the€“ of the new EB-5 program. So we expect another $5 billion in deposits over a 24-month period. So its really, over the next 2 years, where we expect most of the money coming from China and India. That’s one area. We also expect to hire additional teams, most on the East and West Coast. We already had a team start in New York on January 2nd, so we hired one team thus far. We expect the new teams this year plus the teams that we hired last year to start bringing over their books of business and their clients that they have and that goes to all the teams, the 130 teams that we have.

We expect that they’ll continue to do a better job of growing deposits because a number of them over the last several years were under the pandemic. And that certainly heard their ability to bring clients over quickly. So the West Coast finished strong and probably on the pandemic that should work. Fund Banking is refocusing their growth efforts on deposits. Eric mentioned the decrease that we had in Fund Banking loans, they refocused because we want them to fund a little bit more than they have been on their own loans. So they’re concentrating on deposit gathering. And then we have a specialized mortgage banking solutions. They are continuing to grow. We had announced before the credit deposits – I’m sorry, credit of taxes and that slow payment.

But we see growth there. We’ve some deposits added to that institutional – unmet business that we had because they were high priced. But still by letting go some of the high price that should help our NIM, but we’ll be able to bring on more deposits at a reasonable interest rate. So we have the West Coast, we have the EB-5 specialized mortgage bank solutions, fund banking division, refocusing efforts on deposits, and we have the new teams that we have come on board. That’s why we’re so confident that in 2024, working towards 2024 for there to be a greater growth in deposits than we’ve seen in the last few years.

Dave Rochester: Appreciate all the color there. Any – are you guys seeing any growth by any chance in noninterest bearing? Or is that all interest-bearing right now this quarter?

Stephen Wyremski: We were seeing a comparable mix from what we traditionally see, Dave. So roughly that 35%, 36%.