Veritex Holdings, Inc. (NASDAQ:VBTX) Q1 2023 Earnings Call Transcript

Veritex Holdings, Inc. (NASDAQ:VBTX) Q1 2023 Earnings Call Transcript April 26, 2023

Veritex Holdings, Inc. beats earnings expectations. Reported EPS is $0.79, expectations were $0.74.

Operator: Good morning. And welcome to the Veritex Holdings First Quarter 2023 Earnings Conference Call and Webcast. All participants will be in a listen-only mode. Please note, this event will be recorded. I will now turn the conference over to Ms. Susan Caudle, Investor Relations Officer and Secretary to the Board of Veritex Holdings.

Susan Caudle: Thank you. Before we get started, I would like to remind you that this presentation may include forward-looking statements, and those statements are subject to risks and uncertainties that could cause actual and anticipated results to differ. The company undertakes no obligation to publicly revise any forward-looking statements. At this time, if you are logged into our webcast, please refer to our slide presentation, including our Safe Harbor statement beginning on slide two. For those of you joining us by phone, please note that the Safe Harbor statement and presentation are available on our website veritexbank.com. All comments made during today’s call are subject to that Safe Harbor statement. Some of the financial metrics discussed will be on a non-GAAP basis, which our management believes better reflects the underlying core operating performance of the business.

Please see the reconciliation of all discussed non-GAAP measures in our filed 8-K earnings release. Joining me today are Malcolm Holland, our Chairman and CEO; and Terry Earley, our Chief Financial Officer; and Clay Riebe, our Chief Credit Officer. I will now turn the call over to Malcolm.

Malcolm Holland: Good morning, everyone, and welcome to our first quarter earnings call. Despite the challenges in the marketplace, Veritex continues to produce results that accrue to our shareholders’ benefit. For the first quarter, we reported net operating income of $43.3 million or $0.79 per share. Our pretax pre-provision for the quarter was $66.4 million or 2.2% return on average assets. From an operating standpoint, our return on average tangible common equity was in excess of 17.7%. Our return on average assets was 1.44% and efficiency remained in the mid-40s at 45.6%. As our market and industry face new challenges, we also reevaluate priorities and give extra attention to the challenges we have been presented. Liquidity management is part of every discussion.

We have included some detailed slides addressing this topic that Terry will discuss momentarily. Overall, we have seen little deposit outflows since 12/31/22. Our bankers have done an amazing job at communication answering questions and offering deposit solutions to all of our clients and prospects. As expected, growth at Veritex has been reducing. For the quarter, we reported 9% annualized loan growth with the majority of that coming from our funding in our already on the books construction portfolio. Our pipelines across the bank are down over 60%. We expect growth to continue to decline going forward to the mid-single digits. A great deal of our forecasting loan growth depends on the level of payoffs, which are a bit unpredictable in this market during these times.

Payoffs for the quarter were $235 million and as of now our second quarter payoff pipeline looks to exceed first quarter by 15%. Credit continues to be a major focus for me, our credit team and our bankers. The surveillance of our portfolio has never been higher. We recognize that as interest rates stay higher for longer, additional credit stress will continue to appear. We have taken an extra deep dive on our entire real estate portfolio and each product type. You can find that detail on page 19 of the slide deck. For the quarter, net charge-offs were nominal at less than $1 million. NPAs to assets was slightly down and we increased our reserve to 1.07%. You will also see that criticized assets decreased 9% versus the previous quarter. Clay will give you some additional color in a moment.

I will now turn the call over to Terry.

Terry Earley: Thank you, Malcolm. Starting on page five. Q1 was a quarter of strong financial metrics despite the financial market turmoil in March. Tangible book value per share ended the quarter at $19.43, up 5.1% in the quarter and 9.3% on a year-over-year basis after adding back the effect of the dividends. A new metric that we added to our earnings release is pretax pre-provision operating return on average loans. I believe it’s a good barometer of loss absorption capacity from the loan portfolio without impacting TBV or regulatory capital. Our result for Q1 is 284 basis points and is up over 21% on a year-over-year basis. On slide six. For the first 67 days of the quarter, we were growing core deposits at an annualized rate of over 11.5%, everything changed on March 8th.

Fear took over the deposit environment and there was a flight to scale and scale was perceived as safe. For Veritex, this was most evident with our correspondent money market clients. During Q1, we lost 51% of these index deposits as clients moved excess liquidity to the safest venue, the Fed. Overall, our deposits were down $88 million or 1% for the quarter as we replaced correspondent funding with broker deposits. Since the end of Q1, deposit activity continues to return to normal as evidenced by our increase in core deposits of almost $100 million. Veritex started the journey to transform the balance sheet starting in Q3 of 2022. We did this by slowing loan growth, shifting our loan production focus away from CRE and ADC to C&I and small business and building capital, especially the CET1 ratio.

After Labor Day, we heightened our focus on the deposit portion of the balance sheet. We changed our banking — banker incentive program at the beginning of January to give deposit value and volume a much higher weight in our balanced scorecard. We reallocated marketing spend to deposit products and launched a direct marketing campaign in February with encouraging results. All of these efforts and many more will continue through 2023 and beyond. Finally, since March 28th, we reduced our non-core funding by $258 million and materially improved our liquidity capacity. Currently, our liquidity capacity exceeds uninsured deposits by $1.6 billion or almost 50%. Moving forward to slide seven. Continuing the discussion on deposits, the effect of the Fed’s interest rate hikes can be clearly seen in the shift of deposits out of non-interest-bearing to other interest-bearing categories.

These deposits have declined from 35% of total deposits in Q1 2022 to 24% in Q1 2023. Deposit pricing competition has morphed into hand-to-hand combat. Our cycle-to-date total deposit beta is approximately 46%. I expect deposit betas to continue to increase given funding requirements and the competitive landscape. On slide eight, uninsured and uncollateralized deposits are at 38.4%, down from 44.1% at 12/31/22. Veritex’s average account balance is $132,000. On slide nine, loan production declined 73% from Q4 to Q1 as interest rates continue to increase, economic uncertainty increased and liquidity became much more of a concern. Unfunded ADC commitments continue to drop at the rate of $300 million per quarter to $400 million per quarter. On slide 10, you see the evidence of this greater emphasis on C&I.

During the first quarter, C&I and owner-occupied real estate accounted for 48% of our production, up from 41% in Q4. On to page 11. Net interest income decreased by $2.7 million or 2.6% to $103.4 million in Q1. The three biggest drivers of the decrease were higher rates on interest-bearing deposits and liabilities, day count and this was significantly offset by higher loan yields. The net interest margin decreased 18 basis points from Q4 to 3.69% in Q1. The Q1 NIM was negatively impacted by carrying higher cash balance at the Fed. This is approximately 5 basis points of contraction on the NIM. Interest reversals on problem credits was about 3 bps and the rest is due to deposit flows and pricing. All this is to say, NIMs are likely to remain under pressure given the amount of liquidity that has left the banking system and the ongoing war for deposits.

Veritex’s interest rate sensitivity is largely unchanged since Q4 and we remain slightly asset sensitive. On slide 12. During Q1, our loan yield was up 53 basis points to 6.51%, while deposit rates increased 78 basis points. Q1 loan production carries an interest rate of 7.56%. So thankful to have a predominantly floating rate loan book to offset the deposit beta impact and to be able to deliver acceptable new production spreads. On slide 13, we show certain key metrics on our investment portfolio. First, it’s only 9% of assets. The duration is four years, 83% of the portfolio is in AFS and the mark-to-market on the entire portfolio is less than $90 million. On slide 14, non-interest income increased by $4.5 million to $18.9 million. This excludes the loss on the investment portfolio deleveraging trade executed before March 8th.

Revenue diversification is becoming a more important part of the Veritex revenue stream. For the second consecutive quarter, we got outstanding performance in our USDA business and it was also helped by a much smaller loss at Thrive and partially offset with lower customer interest rate swap revenue. We will come back with additional comments on USDA and Thrive in just a minute. Non-interest expense decreased by $949,000 to just under $56 million, reflecting lower variable compensation partially offset by higher data processing and software expense. Turning to slide 15. As I noted earlier, Q1 was another great quarter for North Avenue Capital with $114 million in USDA loans closed during the quarter. We sold the guaranteed portion on approximately $80 million of those loans.

Gain on sale premiums remain very strong and we have a strong pipeline of loans in the closing stage as we look forward to Q2. It’s worth noting that the USDA B&I program could once again run out of funding before the end of the government’s 2023 fiscal year. This is consistent with what happened in 2022 and could impact revenue later in the year. Our SBA pipelines continue to build as new leadership and recent hires gain traction. Gain on sale margins are slightly stronger than at the end of Q4. Moving to Thrive. Veritex recorded an equity method loss of just over $1.5 million as funded volume increased 3% to $426 million. Gain on sale margins improved from Q4 levels, but are still below historical results. Thankfully the negative margin impact of the long-dated locks has now been plus through the P&L.

These losses represented 51% — 50% of our Q1 loss we recognized from Thrive. Thrive’s efforts to right-size the expense structure of the company, given expected 2023 production volume is bearing fruit. We continue to believe breakeven performance in 2023 can Thrive as possible. On slide 16, total capital grew approximately $42 million during the quarter to $1.438 billion. CET1 ratios have expanded by 23 basis points during this period. Please note the impact on, this bar, please note the impact on the capital ratios from the mark-to-market on the AFS and HTM portfolios. These ratios remain meaningfully above the well-capitalized threshold plus the capital buffer. Looking forward on capital, we believe that moderating loan growth and lower unfunded commitments should allow us to achieve our CET1 target of 10% by the end of 2023.

Finally, on slide 17. Note that we increased the weighting on the downside economic scenarios in the CECL model to reflect the uncertainty in the economic outlook and the greater risk — recessionary risk that’s out there. These changes increased the allowance by 5 basis points to 1.07%. With that, I’d like to turn the call over to Clay for some comments on credit.

Clay Riebe: Thank you, Terry, and good morning, everyone. Please turn your attention to page 18 of the deck. Q1 was a quiet quarter overall from a numbers perspective, but a very active quarter from a surveillance perspective. We saw a meaningful reduction in criticized assets due primarily to a large paydown in the lender finance facility discussed on last quarter’s call resulting in a 9% reduction in criticized assets during the quarter. NPAs remained essentially flat for the quarter and reducing the 35 basis points of total assets. Past dues remain manageable, annualized net charge-offs were down to 4 basis points and were primarily due to the cleanup of several SBA credits that went through liquidation. Moving on to page 19.

We have provided a snapshot of the primary loan types held in the CRE portfolio. This information came from an individual review of every credit in excess of $1 million in each sub-segment highlighting. The office portfolio is the primary focus of many during the season. Our office portfolio was 6.7% of the total loan book and contains a significant amount of our classified assets and all of the NPAs in the CRE sub-segments evaluated. There are some troubled loans in the portfolio that will require reworking. However, overall, losses are not expected to be outsized. We currently have 11% of the office portfolio classified and quarterly surveillance is ongoing on the portfolio. There’s very limited construction activity in the office portfolio and all future funding will be for good news money for newly added tenants.

84% of our office exposure is located in our primary markets and we are able to put our eyes on the properties frequently. We have virtually no office exposure near Central Business Districts where the portfolio is located. Industrial and multifamily make up 46% of total CRE outstandings. The majority of multifamily and industrial exposure are construction of Class A properties in the Texas market. Limited issues are expected from industrial and multifamily given the equity and value considerations. Hospitality has held up very well. Overall, the last three years since COVID came on the scene and continues to hold up well. We do not see meaningful losses coming from the hospitality book. Retail is performing very well at this point in the cycle and sales activity in this portfolio is actually picking up.

So, with that, I will turn it back over to Malcolm.

Malcolm Holland: Thank you, Clay. These times are a challenge for our industry and our country. I look back at the last seven weeks, I am grateful for my team and the bank we have built. Business life is always going to throw you some challenges. It’s how you have prepared for those unexpected days that will set you apart. These times also create opportunities that may not have existed prior. Our goal and my charge is to continue to produce results that accrue to the value of our franchise focused on — focusing on continuing to build a fortress balance sheet, deliver sound credit and build tangible book value. Your team is engaged and committed. Operator, we will now take any questions.

Q&A Session

Operator: Thank you. Our first question comes from Brady Gailey with KBW. You may proceed.

Brady Gailey: Hey. Thank you. Good morning, guys.

Malcolm Holland: Good morning, Brady.

Terry Earley: Good morning, Brady.

Brady Gailey: So Thrive had or not Thrive, North Avenue had another great quarter in 1Q. But, Terry, I heard your comments about how the USDA could be running out of funding again. I know if we look at last year, so 2022, either North Avenue had a great 1Q and a great 4Q, but fees there were pretty limited in 2Q and 3Q. So should we think about that same timing potentially for this year if this program runs out of funding similar to how it did last year?

Terry Earley: Brady, it’s a great question. I do think 2023 is going to be a little bit different than 2022. One, there’s already a concerted lobbying effort going on in DC to make sure it doesn’t happen. But I just felt it was appropriate to point it out. Secondly, the pipelines, the loans we have got closed, the commitments we have gotten from the USDA gives me more optimism that Q2 will be better than last year. That’s why I said in my comments, I think, the revenue implications are probably more in the back half of the year and I am really more focused on Q3 in that comment because the new fiscal starts on 10/1.

Malcolm Holland: Okay. And the other thing is that remember, Brady, we can actually do get an approval and do an interim loan. So we have an approval and we fund it where the folks out there that don’t have a bank or don’t have a line, they are just brokers, they are stuck and so we do have an advantage in closing loans that others may not.

Terry Earley: And then, Brady, just to tag on that. The beauty of the interim loans is it gives me incredible insight into future revenue, because it’s sitting on our balance sheet, while the USDA lines up its funding and so we know that’s coming through.

Brady Gailey: Yeah. Those are great points. And then, Terry, I heard your comment about the margin continuing to be under pressure, goes down about 18 basis points linked quarter in Q1. How are you thinking about how much pressure it could be under throughout the rest of the year?

Terry Earley: I think most of the pressure is going to come in Q2, to be honest. It’s — but a lot of this depends on the things totally outside our control, what does the Fed do about rates? And secondly, when the deposits start to return to the banking system again? But I think the pressure is going to be there and but I would expect that if the Fed quits raising in Q3 and pauses that, that level of pressure is going to start to ease off. So look, it’s hard you are asking me to read it — look into the future and read a crystal ball. It’s — I think last quarter, I said NIMs have peaked, and I think I didn’t have any idea they would have done what they have done, but — it just feels like there’s. I would say it this way, Brady, I can — we can see how people are pricing on the margin in our markets and I am shocked at some of the ways deposits.

It’s all — we have lost some deposits over the last 45 days at prices, I would have never dreamed off that competitors are paying on rates. So that’s what leads me to that conclusion.

Brady Gailey: Yeah. And then finally…

Terry Earley: We…

Malcolm Holland: Yeah.

Brady Gailey: Sorry, go ahead.

Terry Earley: No. I am just going to say, we just…

Malcolm Holland: We have let some lead crazy stupid price. Irrational pricing is just — I mean, competitive one thing, irrationality is another.

Brady Gailey: Yeah. All right. And then final question for me, the stock is under tangible book value. I know you guys haven’t been active in the buyback and I know these are very interesting times. But do you think about buying the stock back below tangible book value here?

Malcolm Holland: We think about it, but we are not going to do it right now, because we wouldn’t think it will be prudent.

Brady Gailey: Okay. Great. Thanks, guys.

Operator: Thank you. Our next question comes from Brett Rabatin with Hovde Group. You may proceed.

Brett Rabatin: Hey, guys. Good morning.

Malcolm Holland: Hi, Brett.

Terry Earley: Hi, Brett.

Brett Rabatin: Excuse me, I know there is a pretty bad this morning . I wanted to, I guess, first start off on the decrease in the criticized assets. The linked-quarter of $41 million reduction. I heard the comment about the lender finance credit. Was there anything else that changed linked quarter in the criticized asset bucket?

Clay Riebe: There is a lot of movement because of the surveillance that we are doing. That is the standout event that showed the reduction in criticized assets so.

Brett Rabatin: Okay. And then you mentioned the multifamily construction, you feel pretty good about that not being a credit issue. I just wanted to, obviously, appreciate all the color in the slide deck on LTVs and all that. The confidence on the multifamily construction, do you — is that line of sight just into occupancy that you are expecting or maybe just any color around your confidence on the multifamily construction book? Thanks.

Clay Riebe: Primarily driven by the fact that it’s all very high quality product. There is typically always an open market for multifamily product, and finally, our metrics associated with the portfolio are very strong.

Malcolm Holland: Yeah. And I would just add, Brett, if you take a look at locations there, 87% are in Texas, 67% in the big multi markets of DFW and Houston. So with that said, then you go back to — you go and look at the migration numbers and the people move into Texas and you got 87% of your product, of which 78% is Class A and they got a whole bunch of equity in there. And so, candidly, our portfolios that we look at, that’s probably the one we have the least concern about.

Brett Rabatin: Okay. That’s great color. And then just lastly, on deposits from here. Are there any categories that you are focused on in terms of growing? Are you looking to do money market promotions, CDs, use FHLB or broker or what’s your strategy in terms of the growth of the funding base from here?

Terry Earley: Well, from my perspective, there’s so much going on in this space. Our digital and direct marketing is focused around money market and shorter term CDs. I want to be less reliant on brokered and the FHLB. We have an insurance vertical that we have staffed up in, which is a good source that when we have hired people with a lot of deep expertise in this space. That’s another important source. Our mortgage warehouse business is showing good growth, our community bank and so it’s around commercial, community, digital and direct marketing and insurance.

Malcolm Holland: Let me just say that we have had a plan, I know you guys have heard from us before, but we put this plan into place in the third quarter of last year and so this has been something we have been focused on. And like I said, I think in my comments, I mentioned this is part of a daily conversation at our company, but it was before March 8th. And we are changing the way we look at client selection, changing the way at who we are lending to and why. And so it’s — we have hired somebody full time as of January 1. That’s all they do. They get up every day and they think about deposits. And really think about more than that, just how to acquire the right type of client and we are changing that. And so we have got seven or eight, nine different verticals, if you will, are places or levers that we can pull deposits from.

Not one or two of them is going to solve our issue. We got — all of them have to be successful and so Terry just went through a list, most of those and there’s some other things that we are looking at. And so it’s not a one-size fit for all, I promise you. This is an effort to change our company on who we acquire and what they provide to the bank and then how we can provide that service back on the loan side.

Brett Rabatin: Okay. That’s great color. Appreciate it.

Malcolm Holland: Thanks, Brett.

Operator: Thank you. Our next question comes from Brad Milsaps with Piper Sandler. You may proceed.

Brad Milsaps: Hey. Good morning.

Malcolm Holland: Hi, Brad.

Brad Milsaps: Thanks for taking my question. Maybe, Terry, I wanted to ask on expenses. You had some nice expense control in the quarter. You mentioned lower variable compensation. I maybe would have thought given the strong quarter that North Avenue NAC had that maybe variable comp would have been up. Can you just kind of give us some puts and takes on expenses and sort of how you are thinking about the trajectory of growth off this kind of $56 million number on a core basis in the first quarter?

Terry Earley: Variable comp at North Avenue Capital would have been up. But when you cut your loan production 75%, it has a pretty significant impact on variable comp and other parts of the business. So I think that’s the reason I say variable comps down. And how we are moderating growth, as you know, from last year’s pretty high number to, as Malcolm said in his comments, we did 9% in Q1, mid-single digits for the rest of the year. All those things give me reason to believe that expenses are going to be well controlled. We have made all the investments that we need to make. I can’t think of anything significant. We staffed up last year to prepare for going over 10%. So I think from here, I think expenses should be pretty stable.

I just can’t see anything that’s going to cause them to move up dramatically. There is certainly inflationary pressures, but that — I don’t think that’s going to be a big driver of expenses up for us for the rest of this year and we will see where it goes in 2024 and beyond. But — so I feel pretty good about where the expense levels are and think that we can keep them pretty tight in this range.

Brad Milsaps: Great. That’s helpful. And then just as my follow-up, just to follow up on Brady’s question. I mean you guys, even on the reduced outlook, you are still earning probably somewhere mid-teen ROTCE, which will more than provide the capital you need. I understand that we are in a dynamic environment. But is there a certain level of CET1 or another ratio that you look at or focused on that you feel like you are trying to target as kind of an area, hey, we feel okay. This is kind of where we want to be in terms of our capital ratios.

Terry Earley: I mean, look, Brad, it’s cheap, great buy at these levels. You cannot debate that. But given the economic uncertainty and the need to build capital, we just — as much as we would love to be out there buying shares, it’s just not the prudent safe and sound thing to do right now. But you know…

Brad Milsaps: Yeah. I understand. Is — yeah. Is it just a ratio that you guys are maybe targeting by the end of the year to try to build to just, hey, we are sort of going to let it just go?

Terry Earley: No. No. I mean, look, we have been saying for multiple quarters now, we want to get CET1 over 10% and we definitely think we are going to get there in the back half of the year. Once we get there and then look at the economic outlook and the recession and how credit is behaving, et cetera, then I think it’s a more relevant discussion.

Brad Milsaps: Yeah. Makes sense. Great.

Malcolm Holland: We even have an approved buyback right now. So we still have some work to do if we were even to get to that point. But we are just focused on CET1 and future outlook.

Brad Milsaps: Got it. Great. Thank you, guys.

Terry Earley: Thanks, Brett.

Operator: Thank you. Our next question comes from Gary Tenner with D.A. Davidson. You may proceed.

Gary Tenner: Thanks. Good morning. So couple of questions…

Malcolm Holland: Good morning.

Gary Tenner: Hey. First, in terms of, as you are thinking about the excess liquidity that you have on balance sheet. How long do you think, Terry, you may carry that as things sort of calmed a little bit with regards to liquidity fairs?

Terry Earley: Well, at the end of the quarter, we had $808 million of cash and cash equivalents. The average was certainly less than that for the quarter, but we — you can tell, we really ramped up our cash holding starting March 9th. I think we are going to get cash levels down materially from $800 million, probably, if I had to put it in the old world pre-March 8th, I would have said $300 million to $350 million was probably our target. I’d say our new target is closer to $500 million.

Gary Tenner: Okay. Great. And in terms of office CRE and the additional information is appreciated in the deck, can you remind us kind of the dynamics of that existing office NPA, how long has it been a non-accrual resolution progress, et cetera? And any other maybe commonalities just in terms of those criticized office lines?

Clay Riebe: Yeah. Thanks for the question, Gary. That loan that you are referring in the NPA has been an NPA since the fourth quarter of 2022. It was a former PCD loan that was acquired, and as we move forward, we are trying to execute our strategy to resolve that asset to borrower filed bankruptcy on us and so we are stuck in that one for a little bit until we work through that process.

Gary Tenner: And any commonality in the other ones in the classified assets?

Malcolm Holland: No. That one is a very specific property that is really — its long-term use, it is not as an office, but as a as another site for a different type of prop CRE.

Clay Riebe: And we are carrying it at land back?

Malcolm Holland: Yeah. We are carrying at the land.

Terry Earley: Yes.

Malcolm Holland: Yeah. That’s correct.

Gary Tenner: I am sorry. So does that the $69 million in classified. Is that — is there one sizable credit within that number you just discussing?

Clay Riebe: There are about three different credits that make up that the most — the majority of that $69 million and we are — have our eyes on those very, very closely. So we are working those hard.

Malcolm Holland: Those one just add…

Gary Tenner: Okay. Thanks.

Malcolm Holland: Those, Gary, a couple of them had very, very strong sponsors that have lots of cash flow outside of the office space and they put in a big old chunk of equity in there. That goes back to our borrowers, lots of equity philosophy. So we don’t — we are not concerned about those assets as they reposition them.

Gary Tenner: Okay. Great. And then last question, in terms of Thrive and I think in the prepared remarks, you noted that you think breakeven is possible for the year. Can you ballpark, say, on a quarterly basis, what type of volume they need right now to be breakeven in a given quarter based on their kind of expense reduction exercise they went through, et cetera?

Terry Earley: Yeah. One second. I got to do a quick calculation for you. They need about 400 in ASC.

Malcolm Holland: 438 last.

Terry Earley: 438, I need about 460.

Malcolm Holland: 420…

Terry Earley: They did 426, they need about 450.

Malcolm Holland: 450. Yeah. You told me 450. Yeah.

Gary Tenner: Okay. All right. Thanks, guys.

Terry Earley: Thank you.

Malcolm Holland: Thank you.

Operator: Thank you. Our next question comes from Michael Rose with Raymond James. You may proceed.

Michael Rose: Hey. Good morning, guys. Thanks for taking my questions. Just wanted to go back to the loan growth outlook, certainly, I understand in light of the environment, I think, you mentioned pipelines are down about 60% and some of the tailwind that you are experiencing from construction fund ups. Can you — just as it relates to the outlook for the year, how much of the kind of mid-single-digit growth is related to construction fund ups versus core portfolio growth ex that impact?

Malcolm Holland: I’d tell you, a majority of the fund up is going to be in construction loans that we already have, but we are hoping to offset a big portion of that is through payoffs and so that’s the number that’s really hard to predict in this market. Although we are still getting them and we feel good about the second quarter, but most of the fund up is coming out of the construction book.

Terry Earley: But I’d say the net growth is really going to come from somewhere other than the CRE.

Malcolm Holland: Yeah. Right. Payoffs versus construction is going to hopefully offset, right?

Terry Earley: Correct. And the growth from here is going to be in other parts, which should help on the funding side because they are more related.

Malcolm Holland: Yeah. I wouldn’t expect we are going to be putting on any construction deals, Michael.

Michael Rose: Perfect. I appreciate it. And then just on loans as well. Just on the warehouse, any sort of color as we look forward there. Obviously, the rates have remained — mortgage rates remain relatively sticky. I know there’s the inventory issue, but just wanted to get a sense for what you guys were kind of expecting as we move forward, they are down a little bit on average? Thanks.

Malcolm Holland: Yeah. And I think they will probably stay around where they are. I will say that a lot of folks are deciding to get out of that business. So there’s going to be some opportunities. We have done a — the group has done a really nice job of moving out a few, but there are going to be some opportunities. But I don’t see us growing that business substantially. But there is a deposit feature to that industry that we have tapped into and so we are not getting out of the business. We like the business, especially with some of the deposits that come with it.

Terry Earley: Michael, there will be seasonality, obviously…

Malcolm Holland: Sure.

Terry Earley: … Q2 and Q3…

Malcolm Holland: Yeah.

Terry Earley: … will be up, but I agree, everything else is just want to tack that all.

Michael Rose: Okay. Helpful. And then maybe just finally for me. I appreciate the spot deposit rate data in the slide deck, and obviously, with slower growth on the loan side. Maybe just going back to Brady’s question, just putting kind of everything together, full quarter impact of everything post the failures, the higher funding costs, but obviously, some tailwinds on loan repricing as well. Can you just kind of help us from a magnitude perspective as it relates to the second quarter in terms of the NIM, it seems to me just back in the envelope that margin could be down roughly just as much as it was in the first quarter. I understand the comments that you expect most of the pressure as it relates to the rest of the year to be incurred in the second quarter, but just trying to put a little finer point on the second quarter in particular, what you are expecting?

Terry Earley: I wouldn’t expect — I wouldn’t disagree with anything you said. Somewhere in that range is what I think is possible. And we have been saying for months now that the opportunity for Veritex on the outperformance side is going to come through the fee line and our fee businesses. And I think that’s still true today, even after two good quarters in NAC, we have got the best pipelines in that business we have ever had. So, yeah, I think, the NIM is going to be — I think the NIM is going to feel pressure, especially in Q2 and — but I think the whole thing about revenue diversification, drive improving in Q2, NAC having another good quarter, maybe not as good as Q4 and Q1, but another good quarter is what I think is the key to — from our — to continue to perform well.

Michael Rose: Okay. Great. Thanks for taking my questions.

Terry Earley: Thanks, Michael.

Malcolm Holland: Okay.

Operator: Thank you. Our next question comes from Matt Olney with Stephens. You may proceed.

Matt Olney: Hey. Thanks. Good morning, everybody. I wanted to go back to the…

Malcolm Holland: Hi.

Matt Olney: … discussion around credit quality, and Clay, you talked about the larger lender finance loan that was paid down and came out of the criticized loan bucket? I think you said last time that loan was $100 million. Is that right, and if so, I guess that would imply there were some inflows in migration into that criticized loan bucket. Anything — any color you want to provide on the migrations into the criticized loan bucket?

Clay Riebe: Sure. It was — the loan that you are referencing was that the commitment was $100 million. The balance was not $100 million. But, yeah, there have been migrations into the criticized asset portfolio and it’s done primarily from the deep dive, the results of the deep dive that you see on page 19 and just more surveillance on that. The majority of that has come in our CRE office book, is where most of the movement has been, but there’s also been other good guys that came out of the portfolio that were upgraded during the quarter as well. So the comment on the movement being related to the one particular asset, there’s just a lot of activity this month in that based upon the surveillance that we are done.

Matt Olney: Okay. That’s helpful. I appreciate that. And then I guess sticking on credit, what are the updated thoughts around potential loss content in the overall classified buckets? I know that’s a tough question and impacted by lots of external factors, but just love to appreciate any kind of thoughts you have as far as what’s the real loss content within those buckets? Thanks.

Clay Riebe: Yeah. I don’t see anything today. If we saw it today, we would have it reserved for and we would have already charged it off. But I mean, losses are coming. But it’s very difficult to predict the magnitude of those at this point given the fact we don’t know what future financial conditions help.

Malcolm Holland: Yeah. I mean we are resting in our loan to values, our debt coverages, are great markets with big immigration. But for us to guess what that loss content would be if any, is really, really hard to predict.

Matt Olney: Yeah. Understood. Understood. And then just lastly, we have talked a lot about the construction portfolio and the unfunded balance on that. Just to clarify, I think, that construction book is now 19% of total loans, and obviously, the unfunded pieces declined each quarter that Terry mentioned. Have we now seen a peak in the dollar amount of the construction book or is there still another quarter or two where we could see that increase? Thanks.

Malcolm Holland: No. I think our peak was actually two quarters ago or at least the fourth quarter.

Terry Earley: It’s fourth quarter.

Malcolm Holland: Fourth quarter. Yeah. It’s on the way down pretty rapidly. I think we fund $300 million to $400 million per quarter on the construction side and payoffs coming. So that book is declining. We expect that book to be less than $1 billion by the end of the year.

Terry Earley: The unfunded.

Malcolm Holland: Unfunded fees. Yeah. Yeah.

Terry Earley: Yeah.

Malcolm Holland: The unfunded piece and we started at what, two, four…

Terry Earley: Yeah.

Malcolm Holland: …is our watermark…

Terry Earley: Somewhat. Yeah.

Malcolm Holland: Yes. So…

Terry Earley: So the balance is still going up, but if you look at it on a commitment perspective…

Malcolm Holland: Right.

Terry Earley: … which you guys don’t see and that’s coming down…

Malcolm Holland: That…

Terry Earley: That’s what I am looking at. Yeah.

Matt Olney: Okay.

Malcolm Holland: Based upon actual numbers from fourth quarter to the first quarter, our CRE, our ADC to risk-based capital dropped from 135%, I believe, down to 129%.

Terry Earley: Yeah.

Malcolm Holland: So it actually dropped for the quarter…

Terry Earley: Yeah.

Malcolm Holland: … as a percentage of capital.

Terry Earley: Yeah.

Matt Olney: Got it. Okay. That’s helpful, guys. Thanks for taking my question.

Terry Earley: Thanks, Matt.

Malcolm Holland: Thank you.

Operator: Thank you. This concludes today’s conference call. Thank you for participating. You may now disconnect.