Zions Bancorporation, National Association (NASDAQ:ZION) Q4 2023 Earnings Call Transcript

Zions Bancorporation, National Association (NASDAQ:ZION) Q4 2023 Earnings Call Transcript January 22, 2024

Zions Bancorporation, National Association beats earnings expectations. Reported EPS is $1.29, expectations were $1. Zions Bancorporation, National Association isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Greetings, and welcome to the Zions Bancorporation Q4 Earnings Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Shannon Drage, Director of Investor Relations. Thank you, Ms. Drage. You may begin.

Shannon Drage: Thank you, Camilla, and good evening. We welcome you to this conference call to discuss our 2023 fourth quarter earnings. My name is Shannon Drage, the Director of Investor Relations. I would like to remind you that during this call, we will be making forward-looking statements, although actual results may differ materially. We encourage you to review the disclaimer in the press release or Slide 2 of the presentation, dealing with forward-looking information and the presentation of non-GAAP measures which applies equally to statements made during this call. A copy of the earnings release as well as the presentation are available at zionsbancorporation.com. For our agenda today, Chairman and Chief Executive Officer, Harris Simmons will provide opening remarks.

Following Harris’ comments, Paul Burdiss, our Chief Financial Officer, will review our financial results. Also with us today are Scott McLean, President and Chief Operating Officer; Chris Kyriakakis, Chief Risk Officer; and Derek Steward, Chief Credit Officer. After our prepared remarks, we will hold a question-and-answer session. This call is scheduled for one hour. I will now turn the time over to Harris Simmons.

Harris Simmons: Thanks very much, Shannon, and we welcome all of you to our call this afternoon. As Shannon mentioned, Chris Kyriakakis is joining our call today as our new Chief Risk Officer and we want to welcome him. Chris was formerly our Chief Audit Executive and he is replacing Keith Maio, who recently retired after 32 years of really phenomenal service with Zions in a variety of senior positions. I’d like to start with comments on Slide 3, which includes some themes, which are particularly applicable to Zions. Our financial performance this quarter reflects the unusual circumstances of past year, as events last spring were the catalyst for an acceleration of deposit betas across the industry. We’ve been proactive in managing our balance sheet, making adjustments to our hedging strategy, working with clients to bring back on balance sheet deposits that we’d steer to off-balance sheet money market funds in times of surplus liquidity.

And we’ve demonstrated our ability to effectively manage interest rate and liquidity risk in a very dynamic environment. In the fourth quarter, we’ve seen the deposit mix stabilize and deposit costs start to level out. Net interest margin and net interest income were stable in the quarter. We continue to have a higher concentration of more costly funding sources that is typical for us. And we believe in the near-term that reducing our reliance on funding priced at or near wholesale rates combined with continued deposit pricing discipline, regardless of the future rate path, presents a meaningful opportunity to improve revenue performance. In the medium to long-term, we remain focused on improving shareholder returns by growing profitable small-business and commercial customer relationships by emphasizing growth in our capital markets and wealth management businesses and continuing to move away from single-product, loan-only, and other less profitable relationships.

In 2023, we exited two national lending businesses that produced few deposits and we’re experiencing declining levels of profitability. And we changed our approach to mortgage-lending, as part of our focus on improved profitability. We continue to invest in the business and in enabling technologies to deliver the products and services that our customers need and which enhance the customer experience, all while managing expense growth to nominal levels. We have an established track record for managing risk and underwriting credit [with better than pure] (ph) performance. We believe that the combination of these efforts will result in improved financial outcomes for our investors in years ahead. Turning to Slide 4, we’ve included key financial performance highlights for the quarter and for the full year.

We reported a period-end loan balance increase of 3.8% for the full year and 1.6% in the current quarter. Customer deposit balances were flat for the full year and were up 2.4% in the quarter. Our loan-to-deposit ratio was 77%. Net charge-offs as a percent of loans were just 6 basis points both in the quarter and for the full year, down from an already low 8 basis points reported in the prior year. Our common equity Tier 1 ratio was 10.3% compared to 9.8% in the prior year. Moving to Slide 5. Linked-quarter diluted earnings per share was down $0.35 to $0.78 per share, on net earnings of $116 million, due to the impact of the FDIC special assessments combined with lower non-interest income. Turning to Slide 6. Our fourth quarter adjusted pre-provision net revenue was $262 million, down from $272 million.

The linked-quarter decline was attributable primarily to lower non-interest revenue. Versus the year-ago quarter, PPNR was down 38%, as the increase in our cost of funds exceeded the increase in earning asset yields. So with that high-level overview, I’m going to ask Paul Burdiss, our Chief Financial Officer, to provide additional detail related to our financial performance. Paul?

Paul Burdiss: Thank you, Harris. Good evening, everyone, and thank you for joining. I’ll begin with a discussion of the components of pre-provision net revenue. Over three-quarters of our revenue is from the balance sheet through net interest income. Slide 7 includes our overview of net interest income and the net interest margin. The chart shows the recent five-quarter trend for both. Net interest income on the bars and the net interest margin in the white boxes were consistent with the prior quarter as the repricing of earning assets kept pace with rising funding costs. Additional detail on changes in the net interest margin is outlined on Slide 8. On the left-hand side of this page, we’ve provided a linked-quarter waterfall chart outlining the changes in key components of the net interest margin.

The 14 basis point adverse impact associated with deposits, including changes in both rate and volume, was offset by the positive impact of loan repricing and higher money market and securities yields. Non-interest-bearing sources of funds continued to serve as a significant contributor to balance sheet profitability. The right-hand chart on this slide shows the net interest margin comparison to the prior-year quarter. Higher rates were reflected in earning asset yields, which contributed an additional 106 basis points to the net interest margin. This was more than offset by increased deposit and borrowing costs, which when combined with the increased value of non-interest-bearing funding, adversely impacted the net interest margin by 168 basis points.

Overall, the net interest margin declined by 62 basis points versus the prior-year quarter. Moving to non-interest income and revenue on Slide 9, customer-related non-interest income was $150 million, a decrease of 4% versus the prior quarter, due to lower loan servicing fees primarily attributable to the sale of certain mortgage servicing rights recognized in the third quarter. The remainder of customer-related fees were relatively in line with the prior year as the year-over-year decrease in capital markets revenue was offset by improved commercial account fees. Within capital markets, customer interest rate swap-related revenue in 2023 was adversely impacted by loan demand and the interest rate environment. This headwind was largely offset as investment in new product capabilities has resulted in growth in other sources of capital markets revenue.

We remain confident that we are poised for meaningful growth in capital markets activity and revenue. Our outlook for customer-related non-interest income for the full year of 2024 is moderately increasing relative to the full year 2023. The chart on the right side of this page includes adjusted revenue, which is the revenue included in adjusted pre-provision net revenue and is used in our efficiency ratio calculation. Adjusted revenue decreased 16% from a year ago and decreased by 2% versus the third quarter due to the factors noted previously. Adjusted non-interest expense shown in the lighter blue bars on Slide 10, was essentially flat to the prior quarter at $489 million. Reported expenses at $581 million increased $85 million, due to the $90 million in FDIC special assessment costs recognized in the quarter.

Our outlook for adjusted non-interest expense is slightly increasing in 2024 relative to 2023. Risks and opportunities associated with this outlook include our ability to manage technology and employment costs. Slide 11 highlights trends in our average loans and deposits over the past year. On the left side, you can see that average loans increased slightly in the current quarter. As loan demand remains soft, our expectation is that loans will be stable at year-end ’24 when compared to year-end ’23. Now turning to deposits on the right side of this page, average deposit balances in the fourth quarter increased slightly, as growth in customer deposits were offset by declines in brokered deposits. The cost of deposits shown in the white boxes increased during the quarter to 206 basis points from 192 basis points in the prior quarter.

As measured against the fourth quarter of 2021, the repricing beta on total deposits including brokered deposits and based on average deposit rates in the fourth quarter was 39% and the repricing beta for interest-bearing deposits was 60%. Slide 12 includes a more comprehensive view of funding sources and total funding [trends] (ph). The left side of the chart includes ending balance trends. Short-term borrowings have decreased $8 billion since the first quarter of 2023, as customer deposits have grown and earning assets have declined. On the right side, average balances for our key funding categories are shown along with the total cost of funding. As seen on this chart, the rate of increase in total funding cost at 15 basis points in the current quarter has continued to decline compared to the prior three quarters.

Slide 13 shows non-interest-bearing demand deposit volume trends. You can see that the recent trend in demand deposit attrition appears to be flattening. Although demand deposit volumes have been declining over the past six quarters, as customers move into interest-bearing alternatives, the contribution to the net interest margin shown in the white boxes and therefore the value of the demand deposit portfolio has increased. Moving to Slide 14, our investment portfolio exists primarily to be a ready storehouse of funds to absorb customer-driven balance sheet changes. On this slide, we show our securities and money market investment portfolios over the last five quarters. The investment portfolio continues to behave as expected. Maturities, principal amortization, and prepayment-related cash flows were over $700 million in the third quarter.

With this somewhat predictable cash flow, we anticipate that money market and investment securities balances combined will continue to decline over the near term, which will be a source of funds for the balance sheet. The duration of the investment portfolio, which is a measure of price sensitivity to changes in interest rates, is slightly shorter compared to the prior year period estimated at 3.6% currently versus 4.2% one year ago. This duration helps to manage the inherent interest-rate risk mismatch between loans and deposits. With the larger deposit portfolio assumed to have a longer duration than our loan portfolio, fixed-rate term investments are required to balance asset and liability duration. Moving to Slide 15, we’ve provided the projected trend of AOCI, accumulated other comprehensive income, in — based on an expected accretion and interest-rate impacts based on the forward curve as of December 31st.

AOCI improved to $2.7 billion from $3.1 billion in the prior year, largely due to principal amortization in the securities portfolio combined with interest-rate swap maturities. We expect based on the current forward curve that AOCI will decline by about $900 million cumulatively over the next eight quarters. Slide 16 provides information about our interest-rate sensitivity, which differs in content and format compared to prior quarters. While we provided standard parallel interest-rate shock sensitivity measures in the appendix of this presentation, we believe a more dynamic view of interest-rate sensitivity is most relevant in the current environment. Noted in the bar chart on the far right side of this page, modeled net interest income in the fourth quarter of 2024 is 2.4% higher when compared to the fourth quarter of 2023, using the implied forward path of interest rates at year-end and assuming a static balance sheet.

100 basis point parallel up and down shocks of this implied forward outcome suggests about 2% of interest-rate sensitivity around that figure. This modeled analysis reveals that our balance sheet while asset sensitive using traditional measures is positioned for net interest income growth if short-term rates fall faster than long-term rates. Utilizing this model outcome and overlaying management expectations, for balance sheet changes in deposit pricing, we believe that net interest income will — in the fourth quarter of 2024 will be stable to slightly increasing when compared to the fourth quarter of 2023. Our outlook is that full-year net interest income will be slightly decreasing in 2024 when compared to 2023. Risks and opportunities associated with this outlook include realized loan growth, competition for deposits and a path of interest rates across the yield curve.

Moving to Slide 17, credit quality remains strong. Classified loans increased $56 million, driven by the commercial real estate portfolio, while non-performing assets decreased $4 million. Net charge-offs were 6 basis points of loans in the quarter. Loan losses in the quarter were somewhat granular and largely associated with our commercial loan portfolio. The allowance for credit losses is 1.26% of loans, a 4 basis point decrease over the prior quarter due to a modest improvement in our economic outlook. As we know it is a topic of interest, we have included information regarding the commercial real estate portfolio with additional detail included in the appendix of this presentation. Slide 18 is a reminder of the discipline we have maintained over the past decade as it relates to the commercial real estate portfolio growth.

We have chosen our partners carefully and our growth has remained well below peers over time. Slide 19 provides an overview of the commercial real estate portfolio. CRE represents 23% of our loan portfolio with office representing 15% of total CRE or 3% of total loan balances. Credit quality measures for the total CRE portfolio remain relatively strong though criticized and classified levels increased in the quarter. Overall, we continue to expect the CRE portfolio to perform well with limited losses based on the current economic outlook. Our loss-absorbing capital position is shown on Slide 20. The CET1 ratio continued to grow in the third quarter to 10.3%. This, when combined with the allowance for credit losses, compares well to our risk profile, as reflected in the low-level of ongoing net charge-offs.

We expect to maintain solid regulatory capital while managing to a below-average risk profile. Slide 21 summarizes the financial outlook provided over the course of this presentation. As a reminder, this outlook represents our best current estimates for the financial performance for the full year of 2024 as compared to 2023. This concludes our prepared remarks. As we move to the question-and-answer section of the call, we request that you limit your questions to one primary and one follow-up question to enable other participants to ask questions. Camilla, please open the line for questions.

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Q&A Session

Operator: Thank you. We will now be conducting a question-and-answer session. [Operator Instructions] And our first question comes from the line of John Pancari with Evercore. Please proceed with your question.

John Pancari: Good afternoon. Just on the balance sheet commentary that you gave, on the loan growth guidance of stable balances on an end of period basis, can you maybe talk about the — what the trajectory could look like in terms of where do you expect, you could see some growth and what’s offsetting that, that keeps you pretty conservative there in terms of flattish balances for the year? Thanks.

Paul Burdiss: I’ll start with that. The — our outlook is a reflection of what we’re hearing kind of on the ground from our frontline relationship managers. It feels like demand is softening. And so that ultimately, that’s kind of what’s baked into our outlook. When you get into the components of the portfolio, those are driven as you know by market conditions. So for example, as the commercial real estate market — the capital markets associated part of commercial real estate, as that becomes less of a takeout for commercial real estate loans, you may see those accumulate on our balance sheet as construction loans work to completion while C&I — traditional C&I, for example, may decline with economic weakness. Harris or Scott, would you add anything to that?

Scott McLean: It’s Scott. I don’t think I would. I think our feeling is that the economy is going to be moderately muted throughout the year, which would actually be a positive thing compared to what we all thought six to nine months ago. So you would think that as we get towards the end of the year, we’ll start to see loan growth in the economy probably pick up. But we had the pretty good C&I growth last year despite some of the other movements, and we may be surprised on the upside there.

Harris Simmons: I just — I’d just add the 1-4 family, the residential portfolio, we’ve seen growth — some of that is a product we call a one-time close product which you had construction loans that we’re funding up and being completed, and that will — I expect it will subside somewhat. We’ve really tightened the parameters around that to make sure that it’s not growing too fast relative to the portfolio overall, and limiting the number of — kind of single-product kind of relationships that we have in that program. So I think that will probably slow a little bit. On the other hand, the economy feels like it — you talk to any of our lenders today and I don’t think any of us are very good at predicting what the world is going to look like three months from now. But it does feel like economy is going to probably be in reasonably decent shape through the year and that could help. So anyway we’ll watch with interest, John.

John Pancari: Okay. Great. Thanks, Harris. And then just separately on the other side of the balance sheet, just maybe if you can give us your thoughts on what deposit growth could look like for the year as you look at the trends there? And then maybe also just a bit on around where do you see your non-interest-bearing mix stabilizing, it dropped down a bit to about 36% of deposits as of this quarter? So curious where do you see that bottoming here? Thanks.

Paul Burdiss: Well, the good news is, we did see deposit growth — meaningful deposit growth here as we moved into the end of the year. And I would note that both on-balance sheet deposits and kind of customer sweep balances, that is effectively customer earnings that we’re sweeping off-balance sheet for them, both increased in the quarter. So those are good things. As we look ahead and certainly what we’ve seen over the course of last couple of quarters is that deposit rate is increasingly important, particularly for rate-sensitive money. And so, as we move through the year, we’re going to be carefully balancing the need for funds and the rate we pay on those funds with the need to kind of continue to demonstrate improvement in our net interest margin.

As it relates to — and the cost of funds obviously associated with that. As it relates to where non-interest-bearing demand is trending, I think, we saw some green shoots in terms of run-off in the current quarter as non-interest-bearing demand attrition appeared to slow from what we’ve seen historically. So it’s very difficult to predict sort of precisely where that goes, but I would note that my expectation is, we will continue to see some non-interest-bearing deposit attrition just because of the differential in interest rates between zero and the prevailing market rate. So that trend has slowed, it feels like it will continue to slow. But I’m not predicting an end certainly in the near term.

John Pancari: Okay, great. Thanks, Paul.

Paul Burdiss: Thank you, John.

Operator: Thank you. Our next question comes from the line of Dave Rochester with Compass Point. Please proceed with your question.

Dave Rochester: Hey, good afternoon, guys. On the NII guide, just given your comments about flat loans this year and then run-off in cash and securities, it sounds like you’re baking in lower-earning assets, I guess, on average for the year. I guess, what do you at this point assuming for deposit betas and that analysis as well just on the cuts that you’re baking in for the year?

Paul Burdiss: So in that particular outlook, we are following the forward curve at the end of the year and the forward curve does include several rate cuts particularly as you get in the second half of the year. The assumptions around deposit beta there, if you think about our deposit portfolio, what you see is it’s kind of bimodal and that you’ve got a lot of very low interest-rate deposits and then you’ve got some sort of higher beta, higher rate deposits. Our key assumption there, and I feel pretty good about it is that those higher beta, higher rate deposits, we will be able to — would be able to reprice those relatively quickly if interest rates on the short-end were to begin to fall. But the point of the interest sensitivity analysis that we present is to show that we’re pretty balanced.