WesBanco, Inc. (NASDAQ:WSBC) Q3 2023 Earnings Call Transcript

WesBanco, Inc. (NASDAQ:WSBC) Q3 2023 Earnings Call Transcript October 26, 2023

Operator: Good afternoon, and welcome to the WesBanco Third Quarter 2023 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to John Iannone, Senior Vice President of Investor Relations. Please go ahead.

John Iannone: Thank you. Good afternoon, and welcome to WesBanco, Inc.’s third quarter 2023 earnings conference call. Leading the call today are Jeff Jackson, President and Chief Executive Officer; and Dan Weiss, Executive Vice President and Chief Financial Officer. Today’s call, an archive of which will be available on our website for one year, contains forward-looking information. Cautionary statements about this information and reconciliations of non-GAAP measures are included in our earnings related materials issued yesterday afternoon, as well as our other SEC filings and investor materials. These materials are available on the Investor Relations section of our website, wesbanco.com. All statements speak only as of October 26, 2023, and WesBanco undertakes no obligation to update them. I would now like to turn the call over to Jeff. Jeff?

Jeff Jackson: Thanks, John, and good afternoon. On today’s call, we will review our results for the third quarter of 2023, and provide an update of our operations and current 2023 outlook. Key takeaways from the call today are: Solid financial performance with deposit and loan growth and stable fee income trends; maintain strong capital levels and key credit quality measures, which have remained at low levels and favorable to peer bank averages. We remain focused on disciplined expense management and generating positive operating leverage, while continuing to invest in attractive long-term growth prospects. For the third quarter of 2023, we returned deposit balances to year-end 2022 levels and delivered another quarter of year-over-year loan growth at 10%, while maintaining strong credit quality metrics.

Our solid financial results for the quarter reflect the strength of our franchise and the competitiveness of our growth strategies and teams in the current environment. For the quarter ending September 30, 2023, we reported net income of $35 million or $0.59 per share and pre-tax, pre-provision income of $51 million, when excluding after tax merger and restructuring charges. Our capital position continues to provide financial and operational flexibility as demonstrated by our CET1 ratio of 11%. The key story for the third quarter was the continuation of solid deposit and loan growth while maintaining our strong credit standards. Our key credit quality measures continue to remain at relatively low levels and favorable to all banks with assets between $10 billion and $25 billion.

Further, total loans past due, criticized and classified loans, non-performing loans and non-performing assets as percentages of the loan portfolio and total assets have remained low from a historical perspective, and within consistent range over the last several quarters. As we mentioned last quarter, both our commercial and retail teams have and continue to make concerted efforts to help us grow deposit levels. These strong efforts are demonstrated by September 30th deposit levels increasing 1.8% quarter-over-quarter to $13.1 billion. In fact, our deposits are now back to our year-end 2022 level, a remarkable achievement, considering the turmoil across the banking industry earlier this year. Furthermore, our commercial bankers continue to work diligently on deepening our commercial relationships, with focus on loan swaps and deposits.

Due to their efforts, we saw a slight uptick in the percentage of commercial deposits as a percentage of our total deposits during the quarter. As an example, a customer in one of our legacy West Virginia markets recently grew its banking relationship with us significantly. Thanks to our focus on building long-term relationships versus simply executing transactions. This customer began with us in 2016 as a small business entity, and over the next few years, grew substantially. Our trusted partnership with this customer has grown to an eight figure deposit relationship. I am proud of the hard work of all our teams as they help our customers meet their financial goals. We reported total loan growth during the third quarter of 10% year-over-year and 7% quarter-over-quarter annualized, driven by our commercial and residential lending teams.

Despite the industry headwinds, our right-sized residential teams continue to find new home purchase and construction loan opportunities. Total commercial loan growth increased 8% year-over-year and 6% sequentially annualized, which continues to be driven by our strong lending teams and loan production offices. I am really excited about our newest LPO in Chattanooga, as they have hit the ground running and are bringing in a number of new C&I relationships. Our commercial loan pipeline as of October 16th was approximately $860 million, a 4% increase from the level of September 30th, as our teams continue to find business opportunities to replenish the pipeline that has been driving our strong loan growth. As I mentioned, our four loan production offices are performing very well and are now contributing approximately 25% to the commercial pipeline.

In just three months, our Chattanooga LPO is already 8% of the pipeline. Further, the growth opportunities of our loan production office and lender hiring initiatives, we expect to continue to improve as they gain additional traction. And with a loan-to-deposit ratio of 87%, we have ample lending capacity to continue to support our customers. We continue to make important growth-oriented strategic investments to build upon our successful commercial hiring and LPO initiatives, and which supplement our focus on managing costs. During the summer, we introduced our new WesBanco One account which has a set of comprehensive features and tools designed to help our customers through their financial journey with features and digital banking tools to help them reach their financial goals.

I am pleased to say that we have seen great adoption by both existing and new customers. In addition to our renewed focus on commercial loan swaps, we have been transforming our treasury management business to more of a sales-oriented organization, while equipping it with new products that will enhance our customer relationships. In the next couple of months, we will be rolling out our integrated receivables and payables and purchase card products for our commercial customers. While we provide more details on the 2024 revenue expectations during our January call, we expect these new fee revenue streams to quickly become meaningful from both a more comprehensive customer relationship and bottom-line profitability perspectives. These are examples of our commitment to innovation and investments that serve customers better and drive sustainable growth.

I firmly believe in the long-term growth prospects we are building for our customers, communities, employees and shareholders. I would now like to turn the call over to Dan Weiss, our CFO, for an update on our third quarter financial results and current outlook for the fourth quarter of 2023. Dan?

Dan Weiss: Thanks, Jeff, and good afternoon. Our third quarter results continued to demonstrate the strength of our franchise and successful execution of our strategic initiatives, reflecting both solid loan and deposit growth as well as strong capital levels and credit quality. For the quarter ending September 30, 2023, we have reported GAAP net income available to common shareholders of $34.3 million or $0.59 per share and $116.5 million or $1.96 per share year-to-date. Net income available to common shareholders excluding after tax restructuring and merger-related expenses for the year-to-date period was $119.5 million or $2.01 per diluted share, as compared to $133.7 million or $2.21 per diluted share in the prior year period.

The primary driver in reported results year-over-year reflects the impact of the higher interest rate environment and the recording of a provision expense this year as compared to a provision release in the prior year period. Total assets of $17.3 billion as of September 30th included total portfolio loans of $11.3 billion and securities of $3.4 billion. Total portfolio loans grew nearly 8% year-to-date annualized, reflecting the strength of our markets and lending teams combined with our strategic lending initiatives. In addition, roughly 53% of the year-to-date loan growth was funded through reductions in the securities portfolio, which totaled 19.7% of total assets at the end of the quarter. Commercial real estate loan payoffs returned to a more historical quarterly level during the third quarter, totaling approximately $94 million, while C&I line utilization as of the end of the quarter declined 490 basis points year-over-year to 31%.

A smiling customer exiting the bank, indicating the customer’s satisfaction with the bank’s services.

Residential mortgage originations, which were down 30% year-over-year, totaled approximately $165 million in the third quarter, with roughly 55% of the originations sold into the secondary market. The third quarter total deposits increased sequentially to a level consistent with year-end 2022, reflecting the deposit gathering efforts by our retail and commercial teams combined with $64 million of additional brokered deposits. We continued to experience some shift in the mix of our deposits with non-interest bearing demand deposits down 2.7% from the second quarter. However, total demand deposits and non-interest bearing deposits represented 57% and 32% of total deposits, respectively, which remained consistent with the ranges and averages since December of 2019.

Furthermore, we utilized our deposit growth to pay down higher cost Federal Home Loan Bank borrowings, which decreased $255 million sequentially to $1.1 billion. The net interest margin of 3.03% for the third quarter decreased 15 basis points sequentially, primarily due to higher funding costs from increasing deposit costs and continued remix from non-interest bearing deposits into higher tiered money market and certificate of deposit accounts, partially offset by the deployment of excess cash into higher yielding loans, and the pay down of higher cost to wholesale borrowings. Total deposit funding costs, including non-interest bearing deposits for the third quarter were 136 basis points, an increase of 33 basis points quarter-over-quarter and 119 basis points year-over-year, representing a beta of 40% on the 300 basis point increase in the Fed funds rate since late September of 2022.

Our third quarter loan yield of 5.46% is up 121 basis points year-over-year, also representing a 40% beta as we continue to originate new commercial loans, yielding in the high 7% range, as can be seen on Slide 5 of the supplemental earnings presentation. Since commercial swap fees have become a material component of our fee income, we are now detailing these fees a new income statement line item titled net swap fee and valuation income which includes both new swap fees and fair market value adjustments on existing swaps. For the third quarter of 2023, non-interest income of $30.9 million decreased $1.4 million year-over-year, due to a $1.5 million gain on the sale of an underlying equity investment held by WesBanco Community Development Corporation in the prior year period.

Excluding this prior year gain on sale, non-interest income would have been industry 0.5% year-over-year primarily reflecting the strength in commercial swap fees. Operating expenses continue to reflect nationwide deflationary pressures as well as long-term growth investments including previously completed elements of our strategic loan production office and lender hiring initiatives. Excluding restructuring and merger-related expenses, non-interest expense for the three months ended September 30, 2023, totaled $97.3 million, which increased due to higher salaries and wages, benefits, equipment and software expense and FDIC insurance. Salaries and wages were higher due to midyear merit increases, employee benefits expense increased primarily from rising healthcare costs.

Equipment and software was up from the continuation of our ATM upgrade project, while other expenses included a one-time $800,000 credit from our payment processing business. Our capital position has remained strong. As demonstrated by regulatory ratios, they are above the applicable well-capitalized standards and favorable tangible equity levels compared to peers. Our tangible common equity to tangible assets as of September 30, 2023 was 7.26% up 4 basis points year-over-year or 6.33% when including held-to-maturity unrealized losses, as shown on Slide 7. We continue to believe that we are well-positioned for any operating environment as we actively manage our liquidity risk to ensure adequate funds to meet changes in loan demand, unexpected outflows in deposits and other borrowings, as well as take advantage of market opportunities as they arise.

We will provide our 2024 outlook during our January earnings call. But regarding our current outlook for the remainder of 2023, we are modeling Fed funds to remain unchanged at 5.5% with a couple of rate cuts in the back half of 2024, reflecting the current operating environment of higher funding costs and some deposit mix shift in the higher yielding deposit products, we continue to model some contraction in the fourth quarter net interest margin, but at a lesser rate than the last couple of quarters before beginning to stabilize in 2024. Trust fees and securities brokerage revenue should continue to benefit modestly from organic growth and will be impacted by equity and fixed income market trends. Electronic banking fees and service charges on deposit will remain in a similar range as the last few quarters and they are subject to overall consumer spending behaviors.

Mortgage banking will reflect seasonality and be impacted by industry-wide lower production trends in the current residential lending environment. New commercial swap fee income, which is up more than 150% year-to-date, is still on-track to reach approximately $8 million for the year. Our efforts to enhance our treasury management services continue progress well. We anticipate rolling out new products such as integrated payables and receivables and related cards in the coming months, providing a lift to 2024 fee income. We continue to focus on disciplined expense management to drive positive operating leverage, while also making appropriate growth-oriented investments in support of long-term sustainable revenue growth and shareholder return.

In support of this, we have been reviewing a number of initiatives, including an ongoing efficiency review of our retail network to optimize branch level staffing and reallocate resources into additional revenue-generating hires that should benefit 2024. During the past quarter plus, we’ve also made efforts to right-size our residential lending operations to better align with industry-wide mortgage lending expectations. Considering the expected higher for longer rate environment, we have reduced the overall staffing of this business with an annual expense savings of approximately $3 million, which should begin to be reflected in the run rate during the fourth quarter. While software and equipment will come in higher due to the upgrade of another 50 ATMs placed into service here in the third quarter, most other expenses should remain in similar ranges to the third quarter, after also adding back the $800,000 one-time credit in other operating expenses.

The provision for credit losses under CECL will depend upon changes to the macroeconomic forecast and qualitative factors as well as various credit quality metrics, including potential charge-offs, criticized and classified loan balances, delinquencies, changes in prepayment speeds and future loan growth. And lastly, we currently anticipate our full year effective tax rate to be between 17% and 18% subject to changes in tax regulations and taxable income levels. Operator, we are now ready to take questions. Would you please review the instructions?

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Q&A Session

Operator: [Operator Instructions]. And our first question comes from Casey Whitman of Piper Sandler. Please go ahead.

Casey Whitman: Maybe I would start just, given the success you have had with the LPOs, do you have longer-term plans to open others and sort of what are some of the markets that might make sense for you to deploy that strategy?

Jeff Jackson: Yes. We are really proud of our success in the LPOs. I would say, we are still looking to fill in more in Tennessee. We still have room to grow our Nashville LPO. Other cities in East Tennessee are very attractive to us. And then I would also say Virginia as well. I think that would be a natural progression from our acquisition role of line.

Casey Whitman: Any particular markets in Virginia that would interest you the most?

Jeff Jackson: I would say, Northern Virginia being probably our top market. And then, we have looked at Richmond before and that potentially could be one down the road.

Casey Whitman: Okay. Thank you. And then last one for me. Just unpacking that margin guide you just gave. Sounded like, hopefully, will bottom in the fourth quarter and then maybe stabilize. I guess my question would be, what would it take to start to see the margin grind higher? Do we need rates to go down? Do we just need time? Sort of what’s your bigger picture thoughts on that?

Dan Weiss: Yes, Casey. So I would say, as I mentioned in kind of my prepared commentary, we certainly do expect some slight margin contraction here in the fourth quarter, probably at about half of what we experienced here in between second quarter, third quarter of 15 basis points. So half of that roughly here in the fourth quarter. And then relatively, given our rate outlook, rate cuts occurring in kind of back half of the year, it really probably does — generally speaking, modeling fairly flat margin for the next couple of quarters thereafter. And the rate cuts really are kind of the spark probably that begin to — where we will begin to see that positive upward momentum in margin.

Operator: The next question comes from Daniel Tamayo of Raymond James.

Daniel Tamayo: I’m having some audio issues, just want to make sure you guys can hear me okay.

Jeff Jackson: Good afternoon, Daniel. We can hear you.

Daniel Tamayo: Just kind of continuing on the margin, but just looking specifically at the CDs that are on the book, that are still relatively low cost. Just wondering if you can give us an idea of when those mature over the next few quarters?

Dan Weiss: Yes, Danny. So generally speaking, a large portion, about half of the CD book was put on really over the last couple of — three quarters and a lot of that came on, it was that 4.5%, 7-month CD special. So we do expect for quite a bit of that to turn here over, call it, more early in the — probably more early in first quarter and expect it to turn at a similar rate. So just looking, for example, over the next year, we know that about 80% of the CD book will turn, and that turn — the turnover is at right around $2.88. So 2.88% is the current yield and would expect at least in the nearer term for us to keep that 7-month CD special at that 4.5% rate and generally would expect for customers to move into and to stay in that product.

Daniel Tamayo: And then does your guidance on the margin assume any incremental change in the level of borrowings you have or just how you’re thinking about that?