United Community Banks, Inc. (NASDAQ:UCBI) Q4 2022 Earnings Call Transcript

United Community Banks, Inc. (NASDAQ:UCBI) Q4 2022 Earnings Call Transcript January 18, 2023

Operator: Good morning, and welcome to the United Community Banks Fourth Quarter Financial Results Conference Call. All participants will be in a listen-only mode. Please note this event is being recorded. I would now like to turn the conference over to your hosts. Please go ahead.

Photo by Vardan Papikyan on Unsplash

Unidentified Company Representative: Good morning and welcome to United Community Banks Fourth Quarter 2022 Earnings Call. Hosting our call today are Chairman and Chief Executive Officer, Lynn Harton; Chief Financial Officer, Jefferson Harralson; President and Chief Banking Officer, Rich Bradshaw; and Chief Risk Officer, Rob Edwards. United’s presentation today includes references to operating earnings, pretax, pre-credit earnings and other non-GAAP financial information. For these non-GAAP financial measures, United has provided a reconciliation to the corresponding GAAP financial measure in the Financial Highlights section of the earnings release, as well as at the end of the investor presentation. Both are included on the website at ucbi.com.

Copies of the fourth quarter’s earnings release and investor presentation were filed last night on Form 8-K with the SEC, and a replay of this call will be available in the Investor Relations section of the company’s website at ucbi.com. Please be aware that during this call, forward-looking statements may be made by representatives of United. Any forward-looking statements should be considered in light of risks and uncertainties described on Pages 5 and 6 of the Company’s 2021 Form 10-K as well as other information provided by the company in its filings with the SEC and included on its website. At this time, I will turn the call over to Lynn Harton.

Lynn Harton: Good morning and thank you for joining our call today. We continue to be pleased with our overall performance, we recorded operating earnings per share of $0.75. While that is flat with last quarter, it’s a significant increase over the same period in 2021. Our operating return on assets remain strong at 135 basis points and our pretax pre-provision return on assets reached a new high of 2.07%. Our net interest margin continued to expand, increasing 19 basis points over the third quarter, and loan growth reached 12.2% annualized for the quarter. Business conditions for us remain strong and our Southeastern economies continue to perform very well. However, we’re seeing the impact of Fed rate increases. Clients are actively searching for higher yielding investments.

And we saw deposit outflows of $445 million, primarily in DDA. Deposit competition and resulting deposit betas have increased and will continue to increase in the near-term. We’re assertively defending our deposit and customer base and believe we will continue to relatively outperform in our funding costs. Credit results remain very strong. However, economic forecasts continue to weaken, resulting in reserve bill during the quarter. While net charge-offs did move up to 17 basis points, these results remained below or better than what we would consider normal. Non-performing assets remain low as to our special mention and substandard accruing loans. Notwithstanding the continued good results, we are cautious and have tightened underwriting standards several times over the past year.

Finally, on the operating side, while we did have an uptick in expenses, our net interest income grew substantially, leading to another improvement in our efficiency ratio, reaching a new record low of 47.3% on an operating basis. Strategically, while not included in the quarterly results, we’re very excited to have welcomed Progress Bank into United on January 3. Progress has a great franchise and some high growth markets, including hospital in the Florida Panhandle, is a perfect complement to our existing franchise and will improve our growth prospects for years to come. David Nast, the Founder and CEO of Progress has built a great team. And we look forward to his continued leadership as United in those great markets. And now Jefferson will share more details for the quarter.

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Jefferson Harralson: Thank you, Lynn. And good morning to everyone. I’m going to start my comments on Page 5, where you see the highlights of the quarter that shows our strong returns, many of which Lynn just went over. But I’ll focus on the two notable items that we broke out this quarter. The first is that we have a small number of equity investments on our balance sheet. They are not significant dollars, about $14 million and usually we don’t need to break out the gains and losses here. But this quarter, our equity investments were up $3.6 million, which is unusual and likely will not repeat. The second item is that we took a $1.8 million tax charge because we have started the process and intend to surrender $34 million of BOLI investments in Q1.

We have had this BOLI investments since before 2007 and it is underperforming and actually negative yielding. By surrendering, we received a $34 million back over five years and can reinvest at higher market rates. Let’s go to Page 9 and talk about deposits. We believe we have one of the strongest core deposit bases in the Southeast. As I mentioned, we are seeing the impact of rapidly rising rates and our deposit shrunk in the quarter. The price competition for deposit is also increasing. And we are seeing our deposit betas increase. Our cumulative deposit beta moved to 12% for this cycle from 6% cumulative last quarter. And we expect this to increase in future quarters, both due to higher rates in our various account types and due to a mix change towards CDs. On Page 10, we provide some greater detail on our deposit trends.

The biggest overarching trend this quarter was a decline in the average account balance of our commercial customers, specifically in DDA accounts. While our number of accounts increased, we’re seeing businesses make purchases, make tax payments, make distributions, sometimes move to institutional money markets or treasury bond funds. We’re also seeing some movements to CDs in our business accounts as well. On Page 11, we experienced strong loan growth in the quarter with mortgage being the biggest contributor and fairly diversified growth after that. Moving to Page 12, we feel good about where our balance sheet is in terms of liquidity and capital. Our loan to deposit ratio did increase to 77% this quarter from 73% last quarter. We’re still below where we have been running historically and like our positioning from a liquidity standpoint.

We talk about capital more on Page 13. We are above peers in our TCE ratio and in our risk based capital ratios. We’re using capital in the first quarter with the Progress acquisition. But we still expect to be above peers pro forma for the acquisition. Moving to Page 14, we discuss our net interest margin. We had 19 basis points of net interest margin expansion in the quarter, 20 basis points of which came from the impact of higher rates. And one basis point came from positive mix change, the impact from positive mix change this one basis point I mentioned is lower than what it has been in the past few quarters. In past quarters and in this quarter, we have had the benefit of a shrinking securities portfolio funding higher yielding loans and we expect this to continue.

But now we also have the negative mix change impact, which is moving us away from low cost DDA towards CDs and other higher cost products and also the deposit pricing lag continues to catch up. While the funding environment is competitive, I do believe our Q1 net interest margin is somewhere between down five basis points and up five basis points, including the impact of Progress coming into the numbers. So it’s a bit unclear whether this quarter was the peak in margin or whether it will be in Q1. Moving to Page 15. Fees were up $1.5 million compared to last quarter, with the main driver being the $3.6 million in unrealized equity gains I’ve mentioned earlier. Excluding those gains, the income was down in Q4, mainly due to mortgage and the absence of the large MSR gains that occurred last quarter.

Another reason for the decrease in fees was our decision to sell less SBA loans. While we had strong originations, we had $47 million of SBA originations, we sold just $17 million because the gain on sale pricing was less favorable than in past periods. So we kept more loans on the balance sheet and sold less. We expect to sell this backlog in the first quarter, which will be on top of our normal first quarter sales. Just keep in mind that the first quarter is typically our seasonally weakest quarter for SBA originations. Finally, we had a small amount of realized security losses in the quarter, as well as a small MSR write down. Moving to Page 16, our expenses increasing Q4 by $4.9 million. We have listed the main drivers of the increase on the slide.

I would also say in addition to this, that as I look at the just less than $2 million increase in the communications and equipment line item, that some of the items in there were above what I would call a normal run rate after a lower than normal Q3, so ongoing costs would be closer to the middle of where the Q3 and Q4 results came in. Of course, Progress will come into the expense numbers in Q1, and we expect to start getting the Lion’s share of the $13.5 million in annual cost savings after our second quarter conversion. On Page 17, we talk about credit, our net charge-offs remained low, but moved higher in the quarter to 17 basis points, with the biggest driver being a C&I relationship, along with some normalization at Navitas that we were expecting.

NPAs moved slightly higher. And our special mention and substandard accruing categories were fairly stable. But there were some inflows and outflows that Rob can talk about in the Q&A. All in, we feel good about our credit quality, but acknowledge that we are moving into a period where we expect credit to normalize. On Page 18, we talk about the reserve and show that we continue to build our reserve in the fourth quarter, as we also built our reserve throughout 2022. Specifically, we set aside a $19.8 million provision and took the allowance for credit losses to 1.18% of loans from 1.12% last quarter, and from 97 basis points a year ago. The driver of the increase is similar to what it has been all year, which is the weakening of the Moody’s Baseline Economic Scenario.

All said we feel great about our pre-credit profitability ratios, and the growth of the bank as well as our credit quality and liquidity. But we also acknowledged that we could be moving into a tougher economic environment and we believe we are prepared for 2023 whether it be a soft landing, or something more challenging. With that, I’ll pass it back to Lynn.

Lynn Harton: Thank you, Jefferson. And many thanks to the United team. 2022 has been a great year, thanks to your efforts. Thanks to you, we’ve expanded into dynamic markets in Tennessee, including Nashville and Clarksville. You earned recognition for being number one in customer service in the Southeast for the eighth time in the past nine years. You gave your time and talent to numerous community organizations across our footprint. You added and updated new systems to allow us to better manage risk and to serve our customers. You continue to develop your teams by recruiting new bankers and leaders through training like Leadership Academy, and by taking action on our All Employee Engagement Survey. Finally, you’re recognized as creating a great place to work by American Banker for the sixth year in a row. It’s an honor to work alongside of you, and I can’t wait to see what 2023 will bring. And now I’d like to open the floor for questions.

Q&A Session

Operator: Thank you. We will now begin the question-and-answer session. Our first question comes from Catherine Mealor from KBW. Catherine please go ahead.

Catherine Mealor: Thanks, good morning.

Lynn Harton: Good morning, Catherine.

Jefferson Harralson: Good morning, Catherine.

Catherine Mealor: I’m curious to know what is start on expenses. You mentioned that the run rate to start with is kind of somewhere between the third quarter and the fourth quarter. Can you just kind of help us think through what kind of growth rate we should be thinking about from that level. And it looks like some of the higher FDI expense — FDIC expenses were in this quarter. But are we going to see more of that next year? And just want to kind of think about what kind of expense growth rates appropriate next year?

Lynn Harton: That’s great, thanks for the question, Catherine. When I mentioned between third and fourth quarter, I was talking specifically about the communications and equipment expense. We had several things come through that line item, it’s just kind of unusual, write downs of equipment and such that I don’t think will recur. So I wasn’t so much talking about total expenses between Q3 and Q4 mostly that single line item. The FDIC specifically was an increase of the assessment and late Q3, so we had our Q4 number and a catch up for and a little bit of a catch up on the assessment, but does not include the biggest increase that is happening for, that is two basis points higher on the assessed net assets. With that, I would expect because we’re a little higher than usual this quarter, instead of being a million dollars higher next quarter, maybe it’s $800,000 higher next quarter.

So the FDIC will be a higher semi-permanent run rate by $800,000 is my best estimate right now. The bigger question you’re asking probably is the run rate of expenses, and again off a slightly lower base, than Q4, I think it’s a 4%, 4.5% growth rate, given the inflation rates that we’re seeing, again the last fee cost savings coming from Progress.

Catherine Mealor: Great, super helpful. And then you gave some good margin guidance kind of a range that we might pick this quarter or next, how much in terms of size of the balance sheet and how you’re thinking about loan growth into next year, it feels like your competitors have started to pull back loan growth expectations, just given the economic uncertainty, but just kind of curious how you’re thinking about growth this year?

Jefferson Harralson: So I’d like to start just with the size of our balance sheet, which I expect to be relatively flat. It was a — we had a little growth this quarter, which was surprising a little bit, I thought would be flat. And with that, I’ll pass over to Rich on our forecast for loan growth.

Richard Bradshaw: Sure, good morning, Catherine. We’re still thinking about mid-single-digit loan growth for this quarter and really 2023. We probably originally kind of thinking the range of 7% to 8% and probably per last quarter thinking more in the 8% range, but probably lower into the range now into the economic headwinds that we’re looking at.

Jefferson Harralson: Is that 7%?

Richard Bradshaw: Yes, seven-ish, correct, thank you.

Catherine Mealor: Any change in the composition with that, I know Navitas has been relatively larger piece of the of the loan growth over time, if you expect that to pare back and be supplemented in other ways, you’re counting on the composition of your loan growth?

Jefferson Harralson: Yes, I’ll address that. So I think Navitas will continue to be similar. In terms of the loan growth, what we do expect to see a little bit go down is mortgage. We’ve seen Q1 will be down a little bit. Also, we’ve continued to tighten some of our underwriting criteria, particularly on the construction to permanent product.

Catherine Mealor: Okay, I will step out of the queue. Thank you so much.

Jefferson Harralson: Thanks, Catherine.