Amerant Bancorp (AMTB) Q4 2022 Earnings Call Transcript

Amerant Bancorp (NASDAQ:AMTB) Q4 2022 Earnings Conference Call January 20, 2023 9:00 AM ET

Company Participants

Jerry Plush – Chairman, Chief Executive Officer

Carlos Iafigliola – Senior Executive Vice President, Chief Financial Officer

Laura Rossi – Senior Vice President, Head of Investor Relations

Conference Call Participants

Matt Olney – Stephens

Brady Gailey – KBW

Michael Rose – Raymond James

Feddie Strickland – Janney

Stephen Scouten – Piper Sandler

Operator

Good day and thank you for standing by. Welcome to the Amerant fourth quarter 2022 earnings conference call.

At this time, all participants are in a listen-only mode. After the speakers’ presentation, there will be a question and answer session. To ask a question during this session, you will need to press star-one-one on your telephone. Please be advised today’s conference is being recorded.

I would now like to hand the conference over to your host today, Laura Rossi, Head of Investor Relations at Amerant. Please go ahead.

Laura Rossi

Thank you Michelle. Good morning everyone and thank you for joining us to review Amerant Bancorp’s fourth quarter and full year 2022 results. On today’s call are Jerry Plush, our Chairman and Chief Executive Officer, and Carlos Iafigliola, our Senior Executive Vice President and Chief Financial Officer.

As we begin, please note the discussions on today’s call contain forward-looking statements within the meaning of the Securities Exchange Act. In addition, references will also be made to non-GAAP financial measures. Please refer to the company’s earnings release for a statement regarding forward-looking statements, as well as for information and reconciliation of non-GAAP financial measures to GAAP measures.

I will now turn it over to our Chairman and CEO, Jerry Plush.

Jerry Plush

Thank you Laura. Good morning everyone and thank you for joining today.

I am pleased to be here to report on our performance for the quarter and full year, but before we get into that, I would like to first acknowledge and thank all of my colleagues here at Amerant for their dedication and effort again this quarter. We have a great team and we’re excited about the strong additions to the Amerant family this quarter and throughout the year. They will play an essential role in our growth in 2023 and beyond.

Moving onto the remarks for the quarter, I’m pleased to share that on January 18 of 2023, our board of directors approved a dividend of $0.09 per share payable on February 28 of 2023. The ability to pay dividends along with the ability to repurchase stock are essential parts of effective capital management and value creation for our shareholders. More on this in a few minutes.

I’ll now provide a brief overview of our performance for the fourth quarter and year, and then Carlos will go over the details. He will then turn it back to me for some observations regarding 2023 as part of my concluding remarks.

Let’s turn to Slide 3 for a summary of our fourth quarter highlights. Net income attributable to the company was $18.8 million, down 10.3% quarter-over-quarter driven by the recording of a provision for credit losses of $20.9 million which includes a one-time $11.1 million provision expense in connection with the adoption of CECL, as well as some other items which Carlos will cover in further detail in the coming slides. Please note we will provide disaggregated CECL impacts for each quarter of 2022 in our upcoming 10-K report.

Our net interest margin expanded to 3.96%, an increase of 35 basis points quarter-over-quarter. Our balance sheet continued to grow, reaching a record high of $9.1 billion in total assets compared to $8.7 billion as of the close of 3Q22. Total gross loans were $6.9 billion, up $416 million from the $6.5 billion last quarter. Total deposits were $7 billion, up $456 million from the $6.6 billion last quarter. Core deposits also increased by $114 million this quarter compared to 3Q22.

The company’s capital continued to be strong and in excess of minimum regulatory requirements to be considered well capitalized as of December 31, 2022, and during the quarter we paid out the previously announced cash dividend of $0.09 per share on November 30, 2022.

Regarding effective capital management, as I referenced earlier, on December 19 we announced that our board authorized a new $25 million share repurchase program which became effective on 1/1/2023, and this will remain active for the calendar year of 2023. At the time of this announcement, we stated we did not intend to use this new authorization before reporting the results today, and we did not use it. We do now intend to be opportunistic throughout the year to utilize this authorization where appropriate.

Let’s look at core PPNR on Slide 4. Core PPNR increased to $37.8 million, up 24.8% compared to the $30.3 million reported in the previous quarter. As we’ve consistently stated, we believe it’s essential to show that net revenue growth of the company excluding provisions and non-routine items to show Amerant’s core earnings power.

Turning now to Slide 5, here is a list of several key actions taken during the fourth quarter. We continue to focus on actions that will drive profitability and improve our efficiency ratio. We also intend to continue investing in future growth, as you will see. We referenced last quarter a commercial property that moved into REO. This was disposed of in October at no additional loss.

Regarding an update related to our banking centers, as we previously announced, we did close the Pembroke Pines, Florida location on 10/17/22 and we consolidated the existing customers into our newer Davie branch location. We opened in University Place in Houston at the end of October and closed the South Shepherd banking center. This is a far superior location for us as the Texas Medical Center, Rice University, Rice Village, and the NRG Center complex are all within a one-mile radius.

The downtown Miami location is now expected for 3Q23. This will be a flagship location for us in the heart of the city with private banking, wealth management and commercial banking all having business development officers located there.

We received OCC approval to open a new full service banking center in Key Biscayne, Florida. Permits are expected sometime this quarter and opening is expected for the second quarter. We’re excited to be opening there and we’ve already attracted a well respected team to drive growth.

We also received OCC approval for a new location on Las Olas Boulevard in Fort Lauderdale, Florida. This office is expected to open in 3Q23 and will bolster our consumer bank growth, especially in private banking there.

We continue to add key business development personnel in domestic retail, private commercial banking, as well as wealth management. Our board appointed Ms. Erin Dolan Knight as a member of the board of directors effective on December 15 of 2022. Erin is well known and respected here in the Miami marketplace and her knowledge and banking experience make her an excellent addition to our board. As previously referenced, the board authorized a new share repurchase program for up to $25 million of Amerant shares of Class A common stock.

On the partnership front, we announced an expanded multi-year partnership with the Florida Panthers, making Amerant the official bank of the Florida Panthers and FLA Live Arena. We’re excited to not only be able to say we’re the official bank of the Panthers but to also have them as one of our newest customers, and the same goes for our partnership with the Miami Heat. Banking with us is an essential part of these partnerships. We’ll talk more about this in our concluding remarks.

Then finishing up this slide, we became a large accelerated filer and adopted the current expected credit loss accounting standard, which Carlos will go into detail shortly.

Now we’ll turn to Slide 6. Here are select key performance metrics and their change compared to last quarter. Our net interest margin improved to 3.96% compared to the 3.61% in the previous quarter, and our efficiency ratio improved to 58.4% compared to 65.4% last quarter. Please note that the core efficiency ratio for 4/2/22 was 61.3%, so for consistency and transparency, we included the three core metrics of ROA, ROE and efficiency excluding any one-time or non-routine items in the footnotes in the slide so you can easily see the underlying performance for the quarter.

We’ll turn now to Slide 7, which focused on Amerant Mortgage. On a standalone basis, Amerant Mortgage had net income of $0.9 million, an increase of $100,000 or 13.9% compared to Q3, primarily the result of mortgage banking income from transactions with the bank. On a consolidated basis, we recorded a net loss of $1.5 million for the fourth quarter in connection with the operations of Amerant Mortgage.

Year to date 2022, the company has purchased approximately $413 million in loans through Amerant Mortgage, which includes loans originated and purchased from different channels. The current pipeline shows $64 million in process or 88 applications as of January 12, 2023.

With that said, I’ll now turn things over to Carlos, who will walk through our results for the quarter in more detail.

Carlos Iafigliola

Thank you Jerry, and good morning everyone.

Turning to Slide 8, I’ll begin the discussion with our investment portfolio. Our fourth quarter investment securities closed at $1.3 billion. We also had a strong cash position of $290 million for the end of the quarter. When compared to the prior year, the duration of the investment portfolio extended to 4.9 years due to higher market rates and lower pre-payment speeds recorded in our mortgage-backed securities.

As I shared last quarter, our investment strategy has focused on achieving the right balance between yield and duration while maintaining high credit quality in the portfolio. The floating portion of our investment portfolio increased to 13% compared to 11% in the previous year.

As I have done in the previous quarters, I would like to reference the impact of the interest rate increases on the valuation of the debt securities available for sale. As of the end of the fourth quarter, the market value of this portfolio had increased by $3.9 million after tax compared to a decrease of $35 million in the third quarter. The quarter-over-quarter increase was driven by mortgage bond spreads contracting during the performance of the quarter. We had an after-tax decrease of $97.2 million in the valuation of our AFS portfolio during 2022 which was a direct result of increases in interest rates and is consistent with our interest rate sensitivity analysis for a 300 basis point shock.

Note that 73% of our AFS portfolio is guaranteed by the government while the remaining portion is investment grade. It is also important to comment that our tangible common equity ratio ended at 7.5% after considering the impact of changes in valuation of our AFS portfolio.

Continuing to Slide No. 9, let’s talk about the loan portfolio. At the end of the fourth quarter, total gross loans were $6.9 billion, up 6.4% compared to the end of the last quarter. The increase in total loans was primarily driven by higher C&I loan balances and residential loan purchases during the quarter, despite having received approximately $163 million in prepayments from both CRE and C&I portfolios.

Consumer loans as of the end of the fourth quarter were $605 million, an increase of $28 million or 4.8% quarter-over-quarter. This includes $433 million of higher yielding indirect consumer loans compared to $487 million in the previous quarter. Loans held for sale totaled approximately $62 million as of the end of December, all in connection with the activities of Amerant Mortgage.

Turning to Slide No. 10, let’s take a closer look at credit quality. Overall credit quality remains sound and reserve coverage improved over the quarter despite charge-offs recorded during the same period. The allowance for credit losses at the end of the fourth quarter was $83.5 million compared to $53.7 million at the close of the previous quarter. The change was primarily due to CECL. We elected not to apply the three-year transition provision to our capital calculations.

In the fourth quarter, we recorded a one-time day one $18.7 million adjustment to retained earnings with a corresponding after-tax cumulative effect of $13.9 million to account for the CECL impact as of January 1, 2022, and a day two $11.1 million adjustment to provisions to account for the CECL impact for the year ended December 31, 2022, including loan growth and changes in macroeconomic conditions during the year.

The provision for credit losses in the fourth quarter under CECL excluding the retroactive effect corresponding to the first, second and third quarters of 2022 is approximately $7 million. The provision also included $9.8 million in additional reserve requirements for charge-offs. The total provision recorded for the quarter was $20.9 million compared to a $3 million provision in the previous quarter.

Net charge-offs of $9.8 million in the fourth quarter compared to $0.7 million in the third quarter. Charge-offs during the period were primarily due to $5.5 million related to consumer loans, of which $3.4 million resulted from a change in the consumer credit charge-off policy from 120 days to 90 days past due, $3.9 million in connection with a New York-based CRE retail loan, and $1.1 million in business loans. This was offset by $0.6 million in recoveries. The CRE retail loan is expected to transition into REO during the first quarter of 2023 with no additional changes in valuation once we finalize updating ownership.

Non-performing assets totaled $37.6 million at the end of the fourth quarter of 2022, an increase of $12.5 million compared to the third quarter and a decrease of $22 million compared to the fourth quarter of 2021. The increase this quarter was primarily due to the New York property I previously mentioned and primarily offset by the disposition of a $6.3 million OREO the previous quarter.

The ratio of non-performing assets to total assets was 41 basis points, up 12 basis points from the third quarter of 2022 and down 37 basis points from the fourth quarter of 2021. In the fourth quarter of 2022, the coverage ratio of loan loss reserve to non-performing loans decreased to 2.2 times from 2.9 times in the third quarter, an increase from 1.4 times at the close of the fourth quarter of 2021.

Continuing to Slide 11, total deposits at the end of the fourth quarter were $7 billion, up $456 million from the end of the third quarter. This growth was driven by time deposits which totaled $1.7 billion, up $342 million compared to the previous quarter. Note that domestic deposits account for 66% of our total deposits, totaling $4.6 billion as of the end of the third quarter, up $455 million or 11% compared to the previous quarter. Foreign deposits, which account for 34% of total deposits, totaled $2.4 billion, slightly up by $1.5 million compared to the previous quarter.

Our core deposits, which consist of total deposits excluding all time deposits were $5.3 billion as of the end of the fourth quarter, an increase of $114 million or 2.2% compared to previous quarter. The increase in core deposits was primarily driven by commercial deposits inclusive of new funds from our sports partnerships and additional funds from municipalities. The $5.3 billion in core deposits includes $2.3 billion in interest-bearing deposits, which increased $154 million versus the previous quarter, $1.6 billion in savings and money market deposits, which decreased $88 million versus previous quarter as opportunity cost of customers increases with interest rates, and $1.4 billion in non-interest bearing demand deposits, up $49 million versus previous quarter.

Next I will discuss the net interest income and net interest margin on Slide 12. Fourth quarter 2022 net interest income was $82.3 million, up 18% quarter-over-quarter and up 47% year-over-year. The quarter-over-quarter increase was primarily attributed to higher rates in total interest-earning assets, primarily loans, driven by the combined effect of a 125 basis point increase in the Federal Reserve benchmark during the fourth quarter and a 75 basis point increase at the end of the third quarter. We observed a beta of approximately 55 basis points in our loan portfolio during the third quarter and a beta of 41 basis points for the full year, which helped to drive our margin.

Also contributing to the increase in the net interest income was higher average balances in loans. The increase in net interest income was partially offset by higher rates in interest-bearing deposits, broker fees, and FHLB advances. As we mentioned in the past quarter, we continue to be very disciplined managing an increase in our product rates during this interest rate cycle. We adjusted certain interest rate-sensitive products and relationships to partially reflect the increases in the market rate. As a result, we observed a beta of interest-bearing accounts of approximately 49 basis points during the third quarter and 28 basis points for the full year.

Moving to the net interest margin, as Jerry mentioned, NIM was 3.96%, up 35 basis points quarter-over-quarter. The change in the net interest income on the net interest margin was primarily driven by the increase in the yield of our loan portfolio, which is now at 5.85%, an increase of 79 basis points compared to the previous quarter. As I said in the last quarters, the improvement in the NIM is a reflection of our asset-sensitive position.

Moving to Slide 13, we’ll show the interest rate sensitivity analysis. As you can see, our balance sheet continues to be asset-sensitive with about half of our loans having floating rate structures and 59% re-pricing within a year. Our NIM sensitivity profile to interest rate up scenarios has decreased compared to the last quarter due to increased amount in time deposits. These changes are consistent with a more competitive environment for deposit gathering. This quarter, we are showing a potential increase of approximately 5% in net interest income under an up 100 day scenario and 8% for an up to 100 day scenario. We will continue to actively manage our balance sheet to best position our bank for expected remaining increases in interest rates as the Federal Reserve continues its efforts to dampen inflation in 2023.

Continuing to Slide 14, non-interest income in the fourth quarter was $24.4 million, an increase of $8.4 million from the third quarter. This was primarily due to a recorded net gain of $11.4 million on prepayment of approximately $175 million of FHLB advances as we took advantage of what we consider was their peak evaluation; second, an increase of $0.6 million in fee income from client derivatives; and third, higher market valuations under [indiscernible] instruments. Offsetting this increase in non-interest income was higher losses due to the sale of an investment that was downgraded below investment grade.

We consider $9.1 million of our non-interest income as a non-recurring item, an increase compared to the $1.4 million in third quarter 2022. This was primarily driven by the net gain in prepayment of advances that was previously discussed.

Core non-interest income was $15.3 million in the fourth quarter compared to $14.5 million in the previous one. Amerant assets under management and custody totaled $2 billion as of the end of the quarter, up $184 million or 10% from the end of the third quarter, primarily driven by an increase of $127 million in net new assets as we continue to execute on our relationship-focused strategy, as well as $67 million from an increased market valuation.

Turning to Slide 15, fourth quarter non-interest expenses were $62.2 million, up $6.1 million or 11% from the third quarter and up $7.2 million year-over-year. The quarter-over-quarter increase was primarily due to the following: accrued for severance expenses as well as higher bonus variable compensation in connection with recent performance, higher loan level derivative expenses related to the client derivative transactions, higher expenses in connection with our brand positioning efforts such as out-of-home billboards and sports partnerships, higher professional and other services fees in connection with the adoption of CECL, as well as consulting and legal fees and additional projects, and additional depreciation expenses in connection with the closing of a banking center. These increases were partially offset by lower technology expenses, as well as the absence of an OREO valuation that we had during the previous quarter.

We consider $2.4 million of our non-interest expenses as a non-recurring item, an increase compared to the $2 million in the third quarter of 2022 primarily driven by severance-related expenses, as I mentioned before, and also due to conversion expenses. Core non-interest expenses were $59.8 million for the fourth quarter compared to $54.2 million in the third quarter.

The efficiency ratio closed at 58.4% in the fourth quarter compared to 65.4% in the previous one and 41.4% in the fourth quarter of last year. The quarter-over-quarter decrease was driven by higher net interest income while the year-over-year increase was primarily due to the absence of the gain on the sale of the company’s headquarter building that was recorded in the last quarter of 2021. Core efficiency ratio, which adjusts for non-recurring items, was 61.3% in the fourth quarter of 2022 compared to 64.1% in the third quarter of 2022 and 75% in the fourth quarter of 2021.

Now I will turn back to Jerry for closing remarks.

Jerry Plush

Thank you Carlos. As I referenced earlier, I’d like to make a few comments on initiatives we have underway. I thought this would be helpful to provide.

For most of 2022 and now for the first four and a half months of 2023, our team has been and will continue to work diligently behind the scenes preparing for the conversion of our core systems. Slated to take place on May 8, we believe this will be a significant step forward for us to be able to provide more up-to-date, highly integrated technology which post-conversion will result in making banking with us easier for our customers, as well as our team members.

Regarding our digital transformation efforts, another team led by our Chief Digital Office is working in parallel during this conversion timeline to be ready to greatly enhance our information and data evaluation capabilities. Called Harmony, it reflects our goal of having far more information readily available when interacting with our customers and potential clients, as well as for management purposes.

I’d like to comment next on expansion. We have filed an application with the OCC to open a single location in Tampa to support our growing business opportunities there. We intend to only have one branch there on the first floor of our new regional office location, which we will be announcing soon. This single branch is ideally situated, like the others I referenced earlier in my remarks and the key action slide, to support deposit market share growth aligned with our goal of continued expansion in private banking and commercial banking.

In conclusion, the benefits from the decisions we made throughout 2022 and from the efforts of our team members are clear, as evidenced by a higher core PPNR, significant net interest margin expansion, another quarter of solid loan and deposit growth, and strong capital ratios. As we enter 2023, please know that we, like others, absolutely recognize the challenges that we will all face given uncertain economic conditions. We like the markets we are in and believe they are showing more resilience than other areas of the country, which is a key differentiator for us, but obviously we recognize that even the best markets will likely experience some impacts. We intend, though, to continue to remain focused on executing on our strategic initiatives, as we have in past quarters, as our commitment to be the bank of choice in the markets we serve is unwavering.

With that, Carlos and I will look to answer any questions you have. Michelle, please open the line for Q&A.

Question-and-Answer Session

Operator

Thank you. [Operator instructions]

Our first question comes from the line of Matt Olney with Stephens. Your line is open. Please go ahead.

Matt Olney

Hey, thanks. Good morning everybody.

Jerry Plush

Good morning Matt.

Matt Olney

Start with the loan growth – impressive results in the fourth quarter. I’d be curious about the moving parts of loan growth in fourth quarter within each category, and then, I guess, the outlook for the growth in ’23, and in particular curious about the appetite to add additional mortgage loans from here and also some additional consumer loans.

Carlos Iafigliola

Okay, thank you for the question. The changes in the loan portfolio primarily came from the commercial side. CRE was not the biggest component of the growth this time around, it was probably about $40 million. C&I on the opposite side came with about 120, and specialty finance also came with about 70, so they were probably the biggest drivers this quarter. Then consumer came with about $100 million coming primarily from the different sources that we have. Those were the primary drivers for the quarter, Matt.

Matt Olney

And then the expectations for ’23 within some of those categories you mentioned, Carlos, I’d be curious what your thoughts are there.

Jerry Plush

Yes, hey Matt, it’s Jerry. I think it’s probably safe to say, if you think about our expectations for the year, we still think with the strong pipelines we have, and I think it’s safe to say that you’ll continue to see a fairly similar distribution. Obviously it was a lower quarter, as Carlos mentioned, in CRE, but I do think you’ll see us look to have a pretty balanced distribution product-wise. We’ve hired folks in all of these categories and retained the team that we had in CRE, that we’ve had throughout 2022. We do expect to continue to look for C&I bankers, particularly as we continue to expand here in South Florida and also in Tampa and in Houston, so.

I do think over time, you’ll continue–you’ll see us beginning to build more and more C&I business-related–it will start to become a greater proportion of the growth.

Matt Olney

Okay, well, and I guess I’m trying to drill down and appreciate lots of these loan categories were ramping in ’22 for various drivers, various reasons. I’m trying to appreciate if we should expect a similar level of ramp in ’23, or if it would slow down given some of the economic uncertainties.

Jerry Plush

Yes, look – I think we’re going to–obviously this is all dependent on market conditions, but our view is we’ve added a lot of quality people and you would say that every addition adds incremental volume to the organization, right, and so from the perspective of we’re going to continue to be prudent in our credit decision-making.

I will tell you that we’re being very diligent about looking for full relationships with anyone who wants to borrow money from us. We’re looking for the full banking relationship with each and every one of them, but I do think it’s fair to say that we had an outsized growth for 2022 and I think that’s why we gave you guidance that the number would probably look a little bit more like the 10%, maybe 12% range, tops, compared to where we are.

Matt Olney

Right, okay. That’s helpful.

Then I guess moving over to the expense outlook, I think you had several adjustments on the expenses to non-recurring items. I think core expense is still a little bit elevated near that $60 million level in the fourth quarter. I know you’ve got lots of projects that you’re working on for ’23, so might be hard to nail down specifics, but just would appreciate any kind of thoughts on expectations for operating expenses in ’23.

Jerry Plush

Yes, let Carlos go first. We’ll both comment on this one.

Carlos Iafigliola

Yes, so definitely we had certain items that surged during the last quarter of the year, and I guess one of the items was the accrual for the variable comp. That was definitely one of them, plus severance, but those were extraordinary items. For the core expenses, we still expect the $58 million to $59 million. Remember that inflation is already being factored in, in the cost of the personnel expenses, and that’s been pretty much–there were several adjustments performed during 2022 that will take full effect in 2023. That’s part of the change.

Additional to this, we also have the expenses of the projects that you mentioned, that those will be recorded as one-time as we go through the conversion process, so we expect roughly between $58 million to $59 million in core expenses. Including extraordinary it will be probably closer to the $61 million, approximately, with the conversion services.

Jerry Plush

Yes, you know Matt, I just would add to that, that one of the things, there clearly will be some–a little bit of volatility, but it’s good volatility when you start to look at it from the standpoint of the–you know, if it’s around accruing for driving deposits and loans, that’s a good thing at the end of the day, and so the guidance Carlos just gave you is inclusive of what we expect, but obviously if we have outperformance in a given quarter, like we just did this quarter, we had a higher number to true up what we need to accrue for payouts.

That, I think, is probably the only variable and the only additional comment I’d make on expenses.

Matt Olney

Okay, that’s helpful guys. Thanks for your help.

Jerry Plush

Thank you.

Operator

Thank you, and one moment for our next question.

Our next question comes from the line of Brady Gailey with KBW. Your line is open, please go ahead.

Brady Gailey

Hey, thank you. Good morning guys.

Jerry Plush

Good morning Brady.

Brady Gailey

There’s now less than a billion in assets to go until you hit the $10 billion threshold, and with 10% to 12% growth, it feels like you’ll kind of be flirting with that $10 billion maybe by the end of this year. Do you think that you cross $10 billion this year, and can you remind us of any of the expense impacts or Durbin impacts that we need to think about over $10 billion?

Jerry Plush

Yes, look – I think we gave–obviously we said around 10% or so. You’re right – we’ll be right there. I think we’re going to be very conscious of crossing through that. I will tell you we’ve been spending a lot of time doing the necessary preparation, and we’ll do that throughout 2022.

I think Carlos can comment on any kind of Durbin implications, but to be candid, my expectation is if there are, that’s closer to a 2024 item.

Carlos Iafigliola

Yes, there is–we have been doing analysis, Brady, and honestly the gap of what we need in terms of risk management, integrated audit, and bull risk and all that regulatory framework, crossing the $10 billion is– we’re probably already are completed on that end. We did every possible sensitivity analysis – risk, shocks, etc., so those are already covered.

I believe that one of the items that you mentioned, Jerry, the Durbin amendment wouldn’t have a significant impact for us. We started estimating and it’s probably in the $500,000 to $1 million a year – that’s preliminary expectations what we have, but again you have to have a four quarter average going north of the $10 billion in order for all these changes to kick in, so we’ll definitely keep an eye and as we get closer, we’re definitely going to do any type of GAAP analysis to understand. But based on our preliminary assessments, we are in very good shape to be closer to $10 billion.

Brady Gailey

Okay. Then just bigger picture on performance metrics, as I look at 2022, you guys basically hit–there was a lot of noise in the year, but you basically on a core basis hit a 1 ROA. How are you thinking about profitability looking forward? Do you think the 1 ROA is kind of stable from here? Is there room for additional profitability improvement or pushing the efficiency ratio down further?

Carlos Iafigliola

No, I believe the 1 is sustainable. We have been doing a lot of changes in terms of our cost structure and in terms of other income. I believe one of the key drivers is the financial margin, that we believe is very strong, and as you saw captured in almost–you know, people refer to 125 basis points over the quarter, but in reality we had the last change of the Federal Reserve on September 21, so in reality it feels like 200 basis points. We believe that we should be stable at around 4% financial margin that will give us the core earnings to keep closer to the 1%, so we feel strong on that too.

Brady Gailey

Okay, and then finally for me, just this core system conversion in May, outside of any sort of one-time expenses, will there be any changes in the expense base? Will the expense base go higher with this new system, or does it allow you to potentially become more efficient so expenses could go down? Any impact from that conversion?

Carlos Iafigliola

Yes, we will provide more guidance on the decrease on the second semester, probably when we get closer to conversion because there will be several applications. If you recall, in the Q1 and Q2, we recorded provisions for contract termination for two of our largest technology providers, so as soon as we go into conversion, the second semester of 2023 shouldn’t have the regular expenses related to this previous technology provider. More to come on that, but we’ll fit you up with more information on those decommission as we get closer to conversion.

Brady Gailey

Okay, but post-conversion, expenses are more likely to go down or up?

Carlos Iafigliola

They should be going down due to this decommission of certain services, correct.

Brady Gailey

Got it. Actually, one more – so the expense outlook for $58 million to $59 million, is that just for the first quarter of 2023 or do you think that that’s the 2023 quarterly run rate for the full year?

Carlos Iafigliola

That’s reflective of what we believe it will be the first quarter. Again as Jerry mentioned, as we continue to build up business teams and as we continue to–for instance, the last quarter of 2022 was a great example, there was a surge in production so therefore there was an increase needed in the accrual for variable comp, so as we move and as we create more businesses, that should be subject to change. But this guidance is for the Q1.

Brady Gailey

Okay, great. Thanks for the color, and it was great to see the buyback. Thanks for the color, guys.

Jerry Plush

Thanks.

Operator

Thank you, and one moment for our next question.

Our next question comes from the line of Michael Rose with Raymond James. Your line is open, please go ahead.

Michael Rose

Hey, good morning guys. Thanks for taking my questions.

Just wanted to start on the deposit side and just get an update on–and sorry if I missed this, I hopped on a little bit late, but just any sort of expectations for betas. On the one hand, you guys are pretty rate sensitive and are benefiting from the Fed’s actions, but there are some out there, especially some of the larger banks that are now calling for a pivot by the end of the year, so just wanted to see from a flow perspective, beta perspective what you guys would expect. The loan to deposit ratio is obviously kind of elevated, you still have some attrition of the foreign deposits, although they were up this quarter. I know those are very low betas, so just kind of holistically how should we be thinking about betas and flows, both in the higher-for-longer camp and then what actions you would potentially take to limit downside if the Fed does pivot. Thanks.

Carlos Iafigliola

Yes, good question. In terms of beta, Michael, during the quarter we recorded 0.50 more or less on the deposit side. Something that really helped this quarter was the stability and the cost of international deposits – they barely moved. We went from probably 0.11 to 0.16, the cost, so it continues to be very cheap and very low sensitivity, so that helped us a lot with the blended beta for deposits.

The 0.50 was definitely a sensitive number given the changes that we saw in the market. We expect to be closer to the–between 40 and 50 for the first quarter. Remember that liquidity in the financial system is shrinking and the competition for deposits is high right now, and there are certain accounts that you definitely need to move and be proactive in adjusting rates. Even thought you do it certain product types, you also have to be very cognizant that there will be changes in other accounts, so we expect that 0.40 to 0.50 in terms of cost–beta reaction to the cost of funds.

Important is the behavior of the financial margin. We believe that the level of acceleration that we had in the last quarter of the year wouldn’t repeat itself. I believe it was significant. We started to feel like the financial margin will grow but more decrementally, I would say, so thinking about 4% financial margin would be kind of the level that we feel that should be steady throughout the year.

Jerry?

Jerry Plush

Yes, hey Michael, I think it’s important to note a couple things. We’re going to continue to evolve how we incent our personnel, again as I made a comment earlier about we’re looking for full banking relationships, and with any existing and with new customers, and we’re putting on a very strong incentive program to really drive deposit growth first and foremost.

If you recall, we’ve talked frequently about being a deposits-first bank is one of the most important things. We are laser focused on maintaining that loan-to-deposit ratio and not allowing it to get up above 100%, and I think that we’ve demonstrated that. It’s something we’ve focused on all throughout 2022. We’re going to continue to do that in ’23, and my comment would be that between all of the business development people we’ve added, you’re going to see incremental volumes come from a combination of more people, more focus, and these new systems are going to enable it to be a lot easier, particularly as we acquire more and more commercial customers, and also on the municipal side as well. We think there’s a combination of things that will enable us to continue to grow on that side of the balance sheet.

Michael Rose

Jerry, that’s a great point, and just to kind of follow up on that, do you feel like you have the products in place that your competitors have to be competitive, or is that still a work in progress as you roll off the core systems integration and maybe some other products and services? Do you feel like you are where you need to be, or do you feel like there’s still more work to be done to compete more effectively, because I think everybody has changed their deposit incentives, right, so I mean, do you have the products and capability to be successful in your strategy? Thanks.

Jerry Plush

Yes, I definitely think so, and I think they’re going to be further enhanced post this conversion in May. I think that at the end of the day, a lot of the deposit gathering we do, we’re a people business, right – it’s personal, it’s relationships. All the expansion we’ve done in private banking, we’ll continue to do. These new offices, I mean, they are in very deposit-rich markets and this is very targeted by us to be able to basically have some physical presence, certainly not the big size branches of the past but certainly smaller and just very well located in the right spots.

I think it’s a combination of all these things that are going to get there, but again directly to your question, I think it’s a question for me of saying, hey, we’re okay today and we’ll get better as we go forward on the product and service side.

Michael Rose

Perfect, and then maybe just one final one for me, just on credit. Obviously CECL implementation, but ex-that, you did build the reserve, which I think is prudent. I appreciate all the detail in the back of the deck on commercial real estate – that’s certainly a lot of focus. Can you help us get comfortable with credit and where you are from a reserve perspective? You’ve had some chunkier loans come through over the past couple years. Just trying to size the bucket of potential credits that you could be working through over the next couple quarters and if we should expect the reserve to continue to grow from here. Thanks.

Jerry Plush

Yes, well, I think you know that under CECL, you will see higher provisioning just as a result because you’re doing lifetime expected, right, and so as we grow, you’ll see more provision expense than you would have historically seen, and that’s really what the purpose of this change was all about from an accounting standpoint.

I think the question on the quarter, and there was definitely a little bit of noise vis-à-vis we changed the policy on the consumer side, where we were going to 120 days to charge-off. We backed that to 90 days, so somebody goes three cycles, it’s done, it’s charged off and then it’s in full recovery mode, so you had a catch-up adjustment that also flowed through.

Regarding the one specific credit that Carlos referenced on the call a couple of times related to New York, obviously it’s a CRE relationship, it is something we put a lot of time and energy in understanding, and we decided that it was the prudent thing to do on that particular credit to take that formally in–well, it’s basically a $2.5 million incremental adjustment on that credit in particular.

Look, we book good-size relationships, right, and to your question about chunky, we do think that it’s really important to recognize that that was–and this kind of goes back to one of the earlier questions, why we’re doing so much diversification in terms of the type of loans we’re booking going forward, and there’s more emphasis on the private banking side, we’ve ramped our emphasis up on business banking, we’re ramping our emphasis up in diversification in C&I, particularly the addition of equipment finance and doing more middle markets.

The question, we’re evolving the portfolio, the composition of the portfolio. The emphasis, I guess in the past, and you know this, that was a $740 million portfolio two years ago when we made the decision to stop, and it’s a commercial real estate portfolio, so if there is some chunkiness that does happen, it was just basically a result of these past two credits that have happened and flow through the P&L over the course of ’22. There really has been a significant reduction in commercial real estate retail, I can tell you that, as it relates to in the portfolio, and certainly it’s very selective if we would have done anything like that production-wise.

Carlos Iafigliola

I guess the other comment is consumer, and as Jerry referenced, we changed the policy; but still, the behavior of that portfolio, its losses are below our expectations. It’s probably in the 1.5% to 2% losses, and pretty much we run models that take that to 3.5% or 4%, so still the behavior is below those parameters, so performing well compared to that, even though we changed the policy and you see additional charges this quarter in that concept.

Michael Rose

That’s great color. Thanks for answering all my questions, guys.

Jerry Plush

Sure.

Operator

Thank you, and one moment for our next question.

Our next question comes from the line of Feddie Strickland with Janney. Your line is open, go ahead.

Feddie Strickland

Hey, good morning everybody.

Jerry Plush

Hey Feddie.

Feddie Strickland

Just sticking with credit for a second, it looks like overall criticized balances were down, which is a positive, but it looks like there was some migration from special mention to substandard, potentially. Could you walk us through a little bit more of what you’re seeing in that criticized balances?

Carlos Iafigliola

Yes, that was specifically the loan that we mentioned that was downgraded from–so special mention to substandard, and that is the source of the additional reserves that we took this quarter. That loan was dropped from $24 million to $20 million based on a specific reserve, and then it will transition into OREO this quarter, so. We made that comment on the call that that will go into OREO with no additional changes in valuation. That was the biggest item.

Feddie Strickland

Got it. Sorry, I was having some technical difficulties with my phone earlier, so I missed that.

Carlos Iafigliola

No problem.

Feddie Strickland

Then curious where do you see the most opportunity on the non-interest income side, and just wonder what should we expect there as we go through the year? I know it’s obviously a challenging environment for mortgage still, but it seems like wealth management accounting has been a bright spot for you guys in the past. Just if you could walk through a little bit more of what you’re seeing there.

Jerry Plush

Yes, look – I think with the emphasis we’re placing on private banking, there is a natural evolution as these customers come on to also be able to cross-sell on the wealth side, so I think that’s one driver.

I think the other is we’ve added some key personnel, very experienced people to help develop–using the capabilities that we’ve already got in-house to really develop more on the domestic side. Historically, we’ve had a fair bit, virtually all of it being connected with the international side, and we think there’s just huge upside for us, so in terms of expectations, I think it’s really a volume play for us to continue to be a slow, steady build. But it’s a very, very important part of our plans, is to really drive incremental AUM into the organization.

Carlos Iafigliola

Yes, I believe the last quarter was a good example – $127 million of increases in net new assets. We really want to keep up with that behavior of keep growing, and of course the interest rate cycle is not helping that much the mortgage company but we still–you know, we’re having production and we expect to keep going up with the mortgages and selling to the secondary market.

Feddie Strickland

Got it, that’s helpful.

Just one last one from me, you guys said that it sounds like the balance between the different loan categories growing throughout the year should be kind of similar to what we had this past quarter, so should we expect consumer stays around 8%-ish of loans over time? Is that the number you’re comfortable with?

Jerry Plush

No, I think you’ll see that diminish because we’ve done the transition into a white label solution and that we’ll have direct influence over, so in terms of if you think about us historically–you know, Carlos can comment, but we had a pretty steady appetite of the indirect from the relationships we had, and I think we clearly should see some trail-off from that as the other begins to ramp up.

Carlos Iafigliola

Yes, I guess the best way to describe it is that the indirect purchases were done in bulk and would probably be bigger in amount every month. We just stopped buying from the indirect sources and now we’re coming in, as Jerry mentioned, on the white label, but the white label are focused on footprints where we operate, so you have just Houston and Florida, so the growth would be slower than the payments coming out from the indirect purchases, so it will be a net decrease, so to say. But the composition–

Jerry Plush

And it won’t be as chunky.

Carlos Iafigliola

Correct.

Feddie Strickland

Got it, thanks for taking my questions. Have a good one.

Jerry Plush

Sure. Have a great day.

Operator

Thank you, and one moment for our next question.

Our next question comes from the line of Stephen Scouten with Piper Sandler. Your line is open, please go ahead.

Stephen Scouten

Hey, good morning everyone. Maybe first, just following up on that SOFI conversation, those loans, it looks like were down $63 million. How much of that, if any, update on the net charge-offs was related to those loans versus your core self-originating consumer?

Carlos Iafigliola

There was about $3 million coming from that indirect purchases, and then we had another surge due to the change in policy, but related to the performance was about $3 million.

Stephen Scouten

Okay, that’s helpful. Then if you can give me an idea of what you guys are booking new CDs at and domestic deposits – it looks like that’s probably going to be the biggest driver of deposit growth from here, at least in the near term, so what are you having to pay to get that new CD growth?

Jerry Plush

Yes, I think market rates have run around 4%, and that’s where we are. Customers seem to prefer the, call it sort of the nine to 12-month bucket, and that’s where we’re pricing our 12-month product right now.

Carlos Iafigliola

Yes, we had to manage via promotion as opposed of change in the rate, so we–you know, we keep it up on the branches and on the website as a promotional rate that we can discontinue whenever, but it’s not affecting our typical re-pricing of CDs on an ongoing basis.

Stephen Scouten

Okay, that’s great, and then have you been able to hold spreads, I guess? I mean, obviously the international deposits help a lot in terms of your overall average cost, but have you been able to hold spreads in terms of new production versus what you’re having to pay for new funding? Maybe give a feel for where those new loan yields are coming on at.

Carlos Iafigliola

Yes, new loan yield, so definitely the changes in SOFR and LIBOR have helped a lot increasing the base rate. We haven’t forget even in this interest rate cycle to keep being very disciplined with adding floors to lending structures–

Jerry Plush

That’s leads directly to Stephen’s question. We’ve maintained the spread. We have not made any adjustments on spread.

Carlos Iafigliola

But on the–

Jerry Plush

Meaning on the plus, the SOFR.

Carlos Iafigliola

Yes, but on the lending side, it actually had been favorable because of the more C&I component [indiscernible].

Jerry Plush

Yes, it’s definitely composition that drives it.

Stephen Scouten

That’s great, okay. Super.

I guess maybe just thinking about that holistically as we look at ’23 for NII trends through the year, I know Carlos, you said you feel like you can hold the NIM flat through the year. I would think, just given how asset sensitive you are, if we do actually get what the forward curve is projecting, it would be really hard to keep the NIM flat in the back half of the year, especially if you can continue to grow and have to pay for CDs at a near-market rate. How do you sustain that NIM throughout the year, and how do you think about the ability to grow NII, maybe particularly in the back half of the year if rates get pressured back lower?

Carlos Iafigliola

Well, the question, I guess, comes out of Jerry’s comment on increasing DDAs and non-interest bearing accounts. That’s one of the items that we’ll be working the most. As you noticed, the commercial side was one of the key drivers on the last quarter, and we expect that to continue, and on-boarding full relationships with DDA should help us with the DDA side and blending up the cost of funds. That should be one of the offsetting factors of incremental CDs or additional–or costly money markets.

Jerry Plush

Yes. I think too, Stephen, it’s the incentive plan for our bus-dev officers. There’s a combination here, right – there are more bus-dev officers, there’s a much greater focus, we are focused on full relationships. It’s a combination of things, to Carlos’ point, that will help drive and keep us growing on the non-interest bearing side, because it’s critically important that we’re considered having those kind of core relationships with customers. I think our folks would attest that–and we’re also looking to sell the totality of the bank. We add a C&I customer, we’re looking to do banking work, we’re looking to do private banking. There is all sorts of things that we are emphasizing that historically have not been the priority, and I think that you’ll see this is a big, big change for us. I think that’s going to be very helpful.

Look, I think you’re spot on – there’s going to be pressure towards the back end of the year, but I think from a–there’s a difference between us thinking about the NIM versus the NII, and I just wanted to make sure we were all aligned on this. Obviously greater outstandings is going to drive incremental NII every quarter for us, so my sense is you’re going to see NII growth continue in the organization as we just–as we naturally are growing our loans and deposits. But there’s no question that market conditions are going to really have an impact on–you know, you have competitors that are going to pay up depending on how they’re going to be in liquidity stress, and we’re going to have to selectively react to those type of things, so.

Stephen Scouten

Sure, sure. That’s helpful.

Then just last question from me, when you guys think about capital, what’s kind of your constraining ratio as you think about that? I mean, the $25 million buyback, where the stock is today, the stock is a lot lower than when you were extremely active in the buyback in late ’21 and ’22, so it kind of feels like you’re not getting paid for the improvements in the bank, frankly, with the way the stock is, so how aggressive might you be with that buyback at these levels?

Jerry Plush

Look, I think what we said was we will be opportunistic to exercise that, but I also think it’s important to say you’ve got to be balanced, right? I mean, we’re in a nice place where we’re trying to make sure we have sort of all the tools in the toolkit, right, so now we have a buyback in place, we continue to pay the dividend, but we’re also growing the company, so we’re using capital.

I know that we need to be good stewards of capital – I mean, it’s probably first and foremost. I think one of the really strong points about us that I think people should take a lot of comfort in, is that 7.5% ratio is an excellent ratio in this day and age, and that’s obviously inclusive of the marks, and so I think we’re in a good place. I just think it’s also a function of making sure we’re managing all of our liquidity sources as well, right, so capital is–I mean, cash is precious right now because we’ve got good demand that we’ve got to deploy it into, so we’ll be making lots of trade-off decisions as to which one’s going to provide the best return in the capital.

Carlos Iafigliola

Yes, the marketing–

Stephen Scouten

And is that–is that 7.5% TCE, is that kind of the constraining ratio you look to, or is there another ratio you focus on more intently there?

Carlos Iafigliola

We’re looking–typically for capital planning purposes, we like to look into the Tier 1, which provides a more holistic approach to the position of the company. But yes, as Jerry mentioned, we like to look at the 7.5 as well because that includes the change in valuation, as I mentioned, during the year that changed as well, so. But it’s a balancing act right now between the growth that you want to have and the opportunity that the stock in the market presents.

Stephen Scouten

Great. Thanks for all the color, guys. I thought it was a really impressive quarter, whether or not the market agrees. Congrats.

Carlos Iafigliola

Thank you.

Jerry Plush

Thank you.

Operator

Thank you, and I’m showing no further questions at this time. I would like to hand the conference back over to Chairman and CEO, Mr. Jerry Plush for any further remarks.

Jerry Plush

Thank you again everyone for joining the call. We greatly appreciate it. Have a great rest of the day.

Operator

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