FB Financial Corporation (NYSE:FBK) Q2 2022 Earnings Conference Call July 19, 2022 9:00 AM ET
Company Participants
Chris Holmes – President, Chief Executive Officer
Michael Mettee – Chief Financial Officer
Robert Hoehn – Director, Corporate Finance
Conference Call Participants
Matt Olney – Stephens
Brett Rabatin – Hovde Group
Jennifer Demba – Truist Securities
Kevin Fitzsimmons – DA Davidson
Catherine Mealor – KBW
Stephen Scouten – Piper Sandler
Operator
Good morning everyone and welcome to FB Financial Corporation’s second quarter 2022 earnings conference call.
Hosting the call today from FB Financial is Chris Holmes, President and Chief Executive Officer. He is joined by Michael Mettee, Chief Financial Officer.
Please note FB Financial’s earnings release, supplemental financial information, and this morning’s presentation are available on the Investor Relations page of the company’s website at www.firstbankonline.com and on the Securities and Exchange Commission’s website at www.sec.gov.
Today’s call is being recorded and will be available for replay on FB Financial’s website approximately an hour after the conclusion of the call.
At this time, all participants are in a listen-only mode. The call will open for questions after the presentation.
With that, I would like to turn the call over to Robert Hoehn, Director of Corporate Finance.
Robert Hoehn
Thanks Jamie.
During this presentation, FB Financial may make comments which constitute forward-looking statements under the federal securities laws. All forward-looking statements are subject to risks and uncertainties and other factors that may cause actual results and performance or achievements of FB Financial to differ materially from any results expressed or implied by such forward-looking statements. Many of such factors are beyond FB Financial’s ability to control or predict and listeners are cautioned not to put undue reliance on such forward-looking statements.
A more detailed description of these and other risks is contained in FB Financial’s periodic and current reports filed with the SEC, including FB Financial’s most recent Form 10-K. Except as required by law, FB Financial disclaims any obligation to update or revise any forward-looking statements contained in this presentation whether as a result of new information, future events or otherwise.
In addition, these remarks may include certain non-GAAP financial measures as defined by SEC Regulation G. A presentation of the most directly comparable GAAP financial measures and a reconciliation of the non-GAAP measures to comparable GAAP measures is available in FB Financial’s earnings release, supplemental financial information, and this morning’s presentation, which are available on the Investor Relations page of the company’s website at www.firstbankonline.com and on the SEC’s website at www.sec.gov.
I would say we have heard that the presentation up the Chorus Call app is the prior quarter’s presentation. The current presentation is available on EDGAR as well as our Investor Relations website.
At this point, I’d now like to turn the presentation over to Chris Holmes, FB Financial’s President and CEO.
Chris Holmes
All right, thank you Robert. Good morning everybody. Thank you for joining us this morning. As always, we do appreciate your interest in FB Financial.
For the quarter, we reported EPS of $0.41, an ROAA of 0.62%, and an RO–return on average tangible common equity of 7.1%. Adjusted for $12.5 million of mortgage restructuring charges and $2 million of negative mark-to-market adjustment on our commercial loan help yourself portfolio, we delivered adjusted EPS of $0.64 a share, adjusted ROAA of 0.975, and adjusted return on average tangible common equity of 11.0%. Those returns are a little below our standard but with some good reason, and the quarter signaled some momentum that has us cautiously optimistic. We’ve grown our tangible book value per share, an important measure for us, excluding the impact of AOCI at a compound annual growth rate of 15.2% since our IPO in 2016.
The bank had a very strong quarter of balance sheet and core profitability growth while mortgage had a challenging quarter as they continue to adjust for expected future market conditions. A few items that I want to highlight for the quarter: at $619 million or 31% annualized, loan growth was historically strong. With our markets and relationship managers, asset generation is not a problem. In the last 12 months, we’ve grown loans by $1.4 billion or 20% while not loosening our underwriting standards or expanding our credit box. In fact, in the second quarter we became more selective in our credit process. In the second quarter alone, we estimate that we passed on well over $400 million in construction loan opportunities and those were projects that we viewed as responsible credit opportunities that generally met our underwriting standards, but we passed as we managed our construction concentration down in the current economic environment.
We also continued to see good activity in our non-interest bearing deposits. Excluding our mortgage escrow-related deposits, we grew 16% linked quarter annualized. Year-over-year excluding mortgage escrow deposits, we’ve grown our non-interest bearing deposits by 19%. Growing non-interest bearing operating account relationships is a strong focus for us, and our relationship managers continue to execute well on that goal.
While we saw another good quarter of non-interest bearing growth, we saw pressure on our interest-bearing deposits, which declined by $565 million in the quarter. Of that $565 million, we estimate that just over $200 million of that was in seasonal public funds declines that should come back into the bank as part of the annual business cycle. We had an additional $325 million in larger balances move for higher rates that we chose not to match, and $120 million of that was also public funds relationships. We have another $400 million in higher rate public funds that we expect to exit during the second half of the year since we don’t intend to renew at the current terms.
We went into 2022 with a goal of growing non-interest bearing deposits and holding our cost of deposits down, understanding this would cause our total deposit balances to move lower. We’ve executed on those goals with 82% of loans held for investment to deposits at the end of the second quarter, and we’ve right-sized the balance sheet while improving the composition of our deposit portfolio. As deposit balances have moved lower and assets, particularly loans, have grown faster than we expected, we will need to raise deposits in order to fund loan growth; but as we’ve historically done, we’ll increase our customer relationship deposit balances and have little reliance on wholesale funding and select use of public funds relationships.
Our asset quality remains strong as our NPAs to assets and NPLs to loans HFI remained effectively flat at 46 basis points and 51 basis points respectively. Despite the lack of issues that we see in our portfolio, we do remain cautious in our outlook of future economic conditions. As a result, we maintained our 1.46% allowance for credit losses to loans held for investment. Paired with our loan growth, this resulted in a provision expense of $12.3 million for the quarter, which compares with a release of $4.2 million in the prior quarter. That difference of $16.5 million between the two quarters accounted for a delta of $0.26 in earnings per share this quarter.
We also further reduced our commercial loans held for sale portfolio this quarter. Our exposure is down to four relationships and $37.8 million. Each of the remaining relationships are sponsor-backed healthcare companies. Three of those four relationships are performing well while one has been written down to 10% of par and has only $1.3 million of credit exposure remaining. We had negative mark-to-market of $2 million in the quarter with that one non-performer I just mentioned accounting for a $3.6 million loss and the remainder of the portfolio delivering a $1.6 million gain, for the net of $2 million for the quarter.
As we’re close to being completely out of this portfolio and we’ve provided updates on it each quarter, it’s important to note that since the close of the Franklin merger, we’ve realized gains of $12.2 million above our initial mark-to-market.
Outside of the large provision expense and the mark-to-market on the commercial loans held for sale portfolio, profitability for the banking segment this quarter was exceptional. We saw our year-over-year growth in adjusted banking segment PTPP of 36.1%. That growth has been driven by strong loan growth and our margin benefiting from our asset sensitivity. We see those underlying trends largely continuing over the coming quarters, which should deliver continued strong loan growth and core profitability for our banking segment.
Mortgage continue to face a difficult environment and delivered an adjusted operating loss of $2.7 million during the second quarter. We’ve materially completed the wind-down of our direct-to-consumer channel and made initial structure changes to our retail channel; however, with the market conditions that we anticipate over the foreseeable future, our remaining retail channel will need to continue to make adjustments over the coming months.
Lastly, we were more active in our share repurchase this quarter than we have been historically. With our stock trading at what we believe were attractive valuations, we repurchased $26 million during the quarter. We were glad to retire those shares when we did, but with loan growth that we are experiencing and the economic uncertainty of the coming quarters, we’re not likely to be active in our repurchase program in the near term.
As we look to the second half of the year, we anticipate loan growth slowing from the extreme levels that we’ve seen in the first half of the year to a more reasonable high single digit, low double digit range over the last two quarters of the year. Our local economies continue to be very strong and we see continued demand from our customers, but we intend to be disciplined on pricing given inflation and the general economic headwinds anticipated in the near term. We expect mortgage originations to decline from the already low current levels and we’re further reducing the size of our mortgage division to reflect the new market realities. We don’t expect a positive net income contribution from mortgage in the second half of the year.
Strategically, we continue to focus on bringing in talent that’s been disrupted by the recent consolidation across our footprint. We’ve been able to upgrade our risk and compliance and finance and accounting teams with numerous associates that have held leadership positions at larger public banks across the southeast that have been recently acquired or are going through the process of being acquired. Michael and I continue to be impressed with the quality of resumes coming across our desks and we continue to put people in place that will allow us to double or even triple the size of the company.
We also continue to have positive conversations with relationship managers across our footprint that are evaluating new homes. We’ve hired 32 revenue producers through the first two quarters of the year and those have been in every region across our footprint. With our younger executive team, our $12 billion asset balance sheet and strong organic growth prospects, we provide exceptional runway for relationship managers to come and spend the rest of their careers at First Bank.
As an update on M&A, right now we have too many impactful internal initiatives to distract the team with broad option processes at this point, and with the pullback in the market and bank valuations, that activity has slowed anyway. We do continue to have dialog with high quality banks across our geography and contiguous geographies that have indicated they may be seeking a partner over the coming months or years. We don’t control that timing but we do have active conversations, and anything we’re considering at this point would be with banks we know well in geographies that we know well.
Finally, our innovations group continues to have discussions with fintech and other technology companies. As customers, we look for vendors that can provide standard technology benefits of improved back office efficiencies while making sure we’re up to date with [indiscernible] for our customer experience. As investors, we focus on areas where we have deep niche knowledge and can provide value in a partnership above and beyond what other investors would be able to provide, such as mortgage and manufactured housing. We’re also interested in deposit gathering strategies that can supplement our traditional local community bank customer base.
With that, I’ll now turn it over to Michael to discuss our financial results in some more detail.
Michael Mettee
Thank you Chris and good morning everyone. I’ll speak first to this quarter’s results in our banking segment.
Our baseline run rate pre-tax pre-provision income for the banking segment was $53.9 million in the second quarter. Pointing to the segment core efficiency ratio reconciliations, which are on Page 19 of the slide deck and Page 19 of the financial supplement, we had $102.9 million in segment tax-equivalent net interest income this quarter. Along with that $102.9 million in net interest income, we had $12.8 million in core banking segment non-interest income. Finally, we had $59.3 million in banking segment non-interest expense.
This quarter, due to our lower level of taxable income, we had a geography shift of $1.4 million as tax credits were moved from a reduction in our tax expense to instead be a reduction in non-interest expense. We also had a true-up that resulted in a $1.1 million reduction in reported non-interest expense this quarter. Adjusting for those shifts, core banking segment non-interest expense would have been $61.8 million. Together, that comes to our $53.9 million in run rate segment PTPP which has grown 30.5% over the comparable $41.3 million that we delivered in the second quarter of 2021.
Moving onto our net interest margin with summary detail on Page 5 of the slide deck, our net interest margin of 3.52% showed significant improvement from the 3.04% that we reported in the first quarter. Part of that improvement was due to our accretion in non-accrual collection interest returning to a de minimis impact of positive 2 basis points in the quarter compared to negative 7 basis points in the first quarter. Another driver was our balance sheet mix as declining deposit balances and strong loan volume led interest-bearing cash to be a smaller percentage of our balance sheet.
We estimate that excess liquidity had only a 14 basis point negative impact on our margin in the second quarter compared to 29 basis points in the first quarter. The remaining 20 or so basis points of expansion was due to assets re-pricing faster than our liabilities as our cost of total deposits increased by only 5 basis points while our yield on loans, excluding non-accrual and purchase accounting, increased by 25 basis points. Our securities portfolio increased by 12 basis points and our interest-bearing cash increased by 42 basis points.
Looking forward for our margin, we had a run rate margin excluding the impact of liquidity for the month of June in the 3.7% range. We have only $239 million of our approximately $4 billion in variable rate loans above their floors as of June 30, and that $239 million should be roughly cut in half after the next rate hike later this month. We get a pretty sizeable bump in the yield on our variable rate loans on the day of a rate hike and then get a lingering benefit as loans hit their various contractual re-pricing base. As an example, for the last 75 basis point increase, we saw roughly a 30 basis point increase immediately, and from June 16 to July 7, we saw another roughly 20 basis point increase in yields on our variable rate loans. We’ve also intentionally kept our securities portfolio smaller as a percentage of our overall balance sheet and have kept our duration fairly short. We have around $200 million of cash flows coming off the portfolio and available for reinvestment annually.
Offsetting some of that sensitivity going forward will be higher deposit costs. In the month of June, we had a cost of interest-bearing deposits of 41 basis points compared to 33 basis points for the quarter, and we’ve done a good job so far of keeping our beta low; however, we expect costs to accelerate over the second half of the year as competition for deposits increases.
For banking segment non-interest income, with the Durbin cap on interchange beginning to impact us as of July 1, we expect for our banking non-interest income to be in the $10 million to $11 million range from quarter to quarter over the foreseeable future.
As I mentioned earlier, we view our run rate core banking segment non-interest expenses being $61.8 million versus a reported $59.3 million due to the $1.1 million of true-up and $1.4 million of state tax credits that were shifted above the line and reduced non-interest expense this quarter. We expect continued growth in our banking segment non-interest expenses. As Chris mentioned, we have tremendous opportunity to add talent in both customer-facing and back office roles, and we are continuing to build the infrastructure that will allow us to capitalize on these opportunities in front of us and achieve strong organic growth. Those opportunities that have us planning to add approximately $2 million to $2.5 million in expense in each of the next two quarters.
In addition to expected growth from the $61.8 million over the remainder of the year, we also expect our segment non-interest expense to be elevated in either the third or fourth quarter as we create enough taxable income to move the state tax credit back to the tax line. Once we hit that threshold, we would reverse the $1.4 million benefit we saw in non-interest expense this quarter. As you would expect, that $1.4 million in movement of the tax credit was also the culprit for our higher tax rate this quarter. For the year, we expect our effective tax rate to be in the 22% to 23% area. When the tax credit reverses out of non-interest expense and makes that line item higher, it will reduce our tax rate below normalized levels in the same quarter.
Moving to mortgage, the environment continues to be exceptionally difficult as retail channel lock volumes were down 18% in the second quarter compared to the first quarter and is expected to be down an additional 20% to 25% in the third quarter compared to the second quarter. We have made structural changes to our remaining mortgage operations to account for lower volumes, but with the continued declines, we will need to make further changes to reposition ourselves. We do not expect a positive pre-tax contribution from mortgage in the second half of the year.
Moving to our allowance for credit losses, we saw our ACL to loans decline by one 4 basis points this quarter after sizeable releases previously. Economic forecasts for the second quarter did not move materially from those that we utilized in the first quarter; however, they did get more negative in the July release and our optimism about our local economies is being tempered by uncertainty due to the inflation that we are experiencing the general national narrative that we will soon enter into a recession, if we’re not already in one. If conditions do not change, we would anticipate maintaining a similar level of ACL to loans held for investment over the near term.
I’ll close my section by speaking about our manufactured housing portfolio. For those that are unfamiliar with our manufactured housing portfolio, we acquired that business line with our Clayton Banks merger in 2017. If you recall, Clayton Bank & Trust, which was named for its owner, Jim Clayton, was considered by many to be the father of manufactured housing and the founder of Clayton Homes, which was acquired by Berkshire Hathaway for $1.7 billion in 2003. That background to say our manufacturing housing team has a long history in the industry and learned the business from the best. Today, our MH business has three revenue streams and at quarter end, it had roughly $520 million in total loans or 6% of the overall portfolio.
The first line is our communities portfolio, which has $265 million of the $520 million in loans. The communities business is a strong portfolio of sophisticated operators who sometimes we refer to as multi-family investors, but with a horizontal apartment design. These are loans with significant cash equity positions, long-term seasoned operators who have been and continue to be the beneficiaries of an upward trend in affordable housing across the country.
The second piece of our MH business is our portfolio of loans to the owners of the manufactured homes themselves, which we call our MH retail portfolio. We have approximately $245 million in MH retail, or just less than 3% of our total loans. Typically these are classified as chattel loans, and the majority of those balances sit in our consumer and other category. The average FICO for these portfolios is 663 and the average note size is about $50,000, but the size of new originations has been increasing as manufactured homes assume the same material cost increases as site-built homes. As you might expect, past dues and charge-offs are higher in this segment than the rest of our portfolio with delinquencies ranging anywhere from 4% to 8% in a given month.
In a normal credit environment, we’re accustomed to seeing annual charge-offs in the 50 basis point area. In bad markets, that can move to around 1%; however, during the pandemic we put a qualitative reserve of 5% on this portfolio, so we feel well protected, and with yields in excess of 8%, this is a very profitable portfolio for us and we are excited for it to grow.
Our third revenue stream for MH is our serving book, where we service the retail loan portfolios of some of our MH community customers. This is strictly a fee-based business – no balance sheet risk, no credit risk, just serving portfolios.
With that, I will turn the call back over to Chris.
Chris Holmes
All right, thanks Michael for that color.
We’re pleased with our results for the quarter and particularly proud of the team for the loan growth, and that will conclude our prepared remarks. Operator, at this point we’d like to take questions.
Question-and-Answer Session
Operator
[Operator instructions]
Our first question today comes from Matt Olney from Stephens. Please go ahead with your question.
Matt Olney
Hey, good morning guys.
Chris Holmes
Good morning Matt.
Michael Mettee
Hey Matt.
Matt Olney
I want to ask more about the construction portfolio – I think it’s now around 18% of the loan mix, which would put the bank at the higher end of the range in terms of just the mix. I think you also said you passed on quite a few construction loans this quarter, so just trying to appreciate if you’re trying to manage this down from the 18% or trying to prevent this from moving higher, and then I guess within that segment, would love to hear any commentary you have about which construction segment you’re keeping an eye on in this environment. Thanks.
Chris Holmes
Yes Matt, good morning. It’s Chris, I’ll go first.
First on just managing the overall concentration, we do look at the guideline, or we certainly pay attention to the guideline of 100% of risk-based capital, and today we’re over that. We’ve been signalling that we would go over that because, as you know most of these construction loans, you will make and you might not have draws on them for quite some time, and so you’re always trying to project where that balance is going to be. You don’t know exactly when the projects will complete either and you get a certificate of occupancy, which is when they roll out of construction, so it’s a constant monitoring process and so we have been looking at that, actually for several quarters. If you look at our availability of undistributed funds, our commitments that are not drawn on at this point, it’s actually moved down for us each of the last couple of quarters, and so we’ve been monitoring what goes into that, so yes, we monitor that.
Just as a general, it’s kind of difficult, and I alluded to that in my comments, we’re seeing good projects but we just have to manage the concentration down because we see, given our geography and given the attractiveness of what’s going on in the growth and in migration in our geography, we continue to see some good projects but we’re just managing that down to limit the concentration, is really what’s happening there.
Then on other, you guys have comments on anything?
Then you did ask what are we particularly keeping an eye on. If there was anything that I’ve probably got the closest eye on, I’d say it’s office. Just in the geography, I think it’s still not quite known how the office segment handles COVID. We did just have an announcement – it was a national announcement, but it was–we were one of the markets that had an impact on the Amazon announcement, where they said they were halting construction. I think it was on six buildings, six office buildings where they were reconsidering the layout of the office buildings, and one of those is here where they’ve said, hey, we’re continuing to bring on the people, we just want to take a breath and look at how we’re going to reconfigure that for the new work-from-home work environment. That’s one that we have been watching closely.
I’d say the other is–you know, the others actually have been pretty good for us. We’ve seen good projects in pretty much all the segments. You guys, anything further there? Okay.
Does that help?
Matt Olney
Yes, that’s great, Chris. I appreciate that. Good color.
Then I guess switching gears, also going to ask more about deposit balances. I think you mentioned part of that deposit balance contraction in 2Q, there were some seasonal pressures there; but I guess beyond seasonal pressures, would love to hear more about what you’re seeing with deposit balances. It sounds like we should anticipate additional public funds coming down again in the third quarter – I think you mentioned that. Would love to get your take on expectations for total deposit balances in the back half of the year, if those should contract incrementally or do you expect those to turn positive.
Chris Holmes
Yes, sure. On public funds, there’s been a lot of public funds out there and it’s been really cheap over the last couple of years as municipalities, as states, as all the government entities have just been flooded with money from our federal government, then those deposits have hit bank balance sheets and they’ve been cheap for banks, so they basically have sat on the balance sheet. Sometimes, frankly, they had a loss by the time you collateralize it.
We’ve let them sit on the balance sheet. You saw where our margin was last quarter compared to this quarter, but frankly we–and we knew that once rates moved up that we weren’t going to be keeping a lot of those because we weren’t interested, frankly, in keeping a lot of those. We also had a couple of larger public funds relationships that came to us via acquisition that we were–that were not very profitable for us, and so those were also ones that we said, you know, when the time was right, we would let those go, so we’ve been filtering through that.
There was also the comment that I made in my prepared remarks about the composition of our deposit book being improved, and so that’s where that comes from. We’ve still got a little bit of money sitting on the balance sheet – I say a little bit, I mean, it’s close to $300 million or $400 million that we think will probably exit, again as a result of rate, but historically if you look at our deposit balances, we place almost no reliance on wholesale funds, and then when we do have public funds, it’s usually operating relationships that we’ve got reasonably priced, and so just some remix there is what it boils down to.
Also, as noted, it does come at a time that’s pretty good for us in terms of where we are from loan to deposit ratio, but you also heard me say you’re going to see slower loan growth. Luckily for us, slower loan growth means 10% or 12%, you know, and so that will allow us to continue to remix and re-price on the deposit side.
Matt Olney
Chris, that’s helpful, and I guess another part of that would be just the overnight or liquidity position has come down a little bit over the last few quarters. Would love to hear more commentary about how you expect to fund loan growth the back half of the year, whether it’s deposit growth or just liquidity, and then longer term, where do you see that overnight liquidity position going? Thanks.
Michael Mettee
Hey Matt, it’s Michael, good morning.
Yes, we did see a large drop in excess liquidity due to the funding of the loan growth, $619 million, and then also the deposit runoff that Chris just mentioned. I think you’ll see a little bit more pressure on liquidity, and Chris just mentioned some public funds going back out, but I would say that would normalize relative to the last couple years. We’ve been running excess for a good two, three years here, and so kind of back to limits that we would have expected back in the 2019 range.
You will see a focus on deposit generation – Chris mentioned 10% to 12%. Loan growth, we expect to fund via relationship deposits, so that’s–you know, if you think about that, we’ve talked about our deposit costs being relatively low increase quarter over quarter, and so I’d expect to see that accelerate – you know, our betas will be a bit higher or possibly materially higher to kind of catch up. We’ve been very fortunate and it was our plan to let some of these deposits run down to keep our costs low and take advantage of some of that excess liquidity, so in the back half of the year I think you’ll see us move a bit more in line with interest rate increases to not only maintain our current deposits on interest bearing but grow some as well.
Chris Holmes
I’ll add one thing to that, Matt, and that is that our traditional public funds that we have had on the balance sheet for a long time bottom out generally in the second quarter, and then they begin to build back in the third and fourth, and so we expect those to build back some over the third quarter as well. We feel like when we go out with–now I’m talking not about crazy above-market rates, but when we go out with a premium deposit proposition, our customers and our relationship managers respond very well.
Matt Olney
Okay guys, thanks for the commentary. Appreciate it.
Chris Holmes
Thanks Matt.
Operator
Our next question comes from Brett Rabatin from Hovde Group. Please go ahead with your question.
Brett Rabatin
Hey guys, good morning.
Chris Holmes
Good morning Brett.
Brett Rabatin
Wanted to first just talk about the loan growth, the $620 million – obviously extremely impressive. Wanted to hear any color you could give on how much of that was new versus existing clients, and then how much of that would have been fixed versus floating production?
Chris Holmes
Yes, good questions. A strong majority of that would be existing clients, so I’m not sure exactly the percentage that would be existing versus new but a strong percentage of it would be relationships with existing–would be existing relationships, a strong majority of that.
Then fixed versus variable is close to–it’s right at 50/50. We’re right at 50/50 in the loan portfolio, and what came on in the quarter was right at 50/50 also.
Brett Rabatin
Okay, and just given, Chris, that a lot of that production was existing customers, I’m curious to hear your thoughts on the perception or ability to possibly grow through a recession. There’s been some talk with that on larger banks about using a recession as an opportunity to move market share, continue to grow through a recession. I think Michael mentioned are we in a recession or not. Assuming we are in a recession next year, what happens to that high single digit, low double digit number? How would you change, if anything, how you’re doing loan underwriting?
Chris Holmes
Yes, so if anything, when changing on the loan underwriting, and already I’d say it’s actually already gotten a little more stringent in terms of–I don’t want to send the wrong message there. It’s not like we’re battening down the hatches or anything like that. We’re absolutely open for business and we are continuing to do business, but we’re certainly also paying attention to the economy, and so you ask a good–I liked your first question a lot, how much of that was to customers and how much of that was not. In times of this, you make sure that you can take care of your customers and you can allow them to grow when they’ve got opportunities to grow, and so that’s top of mind for us. Because of that, that makes you be a little more focused on that part of your business, so we think we can continue to grow but, frankly, it’s as much–I’m going to go back to Matt’s question, it’s as much about growing the deposit side as it is the loan side at the same time, so we’ve got to be able to grow both at the same time.
What we don’t want to do, and as I–I didn’t say this expressly but I talked about use of wholesale funds and I talked about getting over-reliant on public funds, what we don’t want to do is become over-leveraged at a time when we–our economies are actually, as you know as well as any of us because you’re right here, our economies are as good as any in the country, and so we can sometimes get blinded to the bigger picture nationally and internationally, so we’re keeping an eye on all that.
But we don’t–we’re not feeling it from a business standpoint. Our customers are optimistic, our credit continues to look really good, particularly our commercial book continues to look really good, and so we’re not feeling that, so we’re looking at balanced growth right now. We’re looking at keeping strong levels of capital, which we have, and we’re looking at making sure that we can continue to allow our customers to grow in this environment, so those are the things that we’re focused on.
Michael Mettee
Yes, and Brett, loan growth through a recession or through the cycle, keep in mind Chris mentioned we’ve added 32 revenue producers, we’ve entered into central Alabama last year, so that team’s taken off. Our north Alabama team has really started to hit its stride, and we have to–the Memphis team that came onboard in the last year and a half, two years or so as well, it has market share opportunity, and the disruption that we talked about for bank acquisitions, mergers across our footprint provides us opportunity to kind of grow through a recession as well, if one comes.
Brett Rabatin
Okay, that’s helpful. One last one, if I could. The only thing I’ve been able to get kind of geography-wise in the footprint is maybe in the Carolinas, some folks that have–I guess it’s adjacent to some markets you’re in, some lower end manufacturing, furniture manufacturing customers, orders really taking a beating here recently or a drop-off in orders. Has there been anything that you guys have seen in any of the markets that suggests a slow-down at this point?
Michael Mettee
Brett, I think what we’re kind of concentrating, we haven’t seen it across commercial or small business, but we are worried about the consumer. Ours are healthy if we look at checking account balances prior to the pandemic to today, still elevated in a strong way, so see that. But we do have–we mentioned mortgage [indiscernible] people coming off forbearance, we’ve seen the end of stimulus checks, and so just keeping a close eye on those consumers and how their spending habits are and what they’re doing on their loan payments and delinquencies. That would be where I think a lot of our concern would lie, but we haven’t seen broad economic slowdown, and like Chris mentioned, really positive from most of our commercial and small business clients.
Chris Holmes
Yes, I agree with all of that in terms of what we see on portfolio. I will say this – in talking to customers, we have heard and seen in some of our markets, you’re now actually seeing for sale signs, residential market for sale signs where you just–frankly, they were selling so fast, they never even got the signs in the yard, so you’re now seeing a few more for sale signs. I don’t take that as a sign of distress, I take it as a sign of normalcy. We have heard from some particularly high end builders that they have seen the market slow, that they have seen it again return to more of a sense of normalcy, but we’ve heard from some high end builders that they’ve seen markets slow.
Brett Rabatin
Okay, great. Appreciate all the color.
Chris Holmes
Sure.
Operator
Our next question comes from Jennifer Demba from Truist Securities. Please go ahead with your question.
Jennifer Demba
Thank you, good morning. Just curious about provision and what your outlook is over the next couple of quarters. I know credit quality has stayed really, really healthy, but do you have any thoughts about reserve build going forward?
Michael Mettee
Sure. Hi Jennifer, good morning, it’s Michael.
Yes, so for the ACL for this quarter and kind of looking out, I kind of mentioned that–or I did mention we’re kind of expecting as loan growth continues, that the ACL to held for investment will stay pretty steady given our current outlook, so I wouldn’t expect releases. Now, the economy and outlook moves pretty quickly or has moved pretty quickly, so over the second quarter versus first quarter on the quantitative side, we didn’t see a huge change in our Moody’s scenarios. We did see kind of a slowing GDP growth. We kept the same scenario in the model, but due to loan growth we saw an increase, and on the qualitative side we made a couple of adjustments. We removed our troubled industries from COVID that kind of reduced that number, but we had a bit of a stagflation outlook which was rolled into the quantitative portion.
What we’re thinking, and you can kind of–you see it in the deck, slower GDP growth, kind of picks back up on the out years – ’23, ’24, and some elevated unemployment in ’23, but CRE stays pretty stable, so I would expect that that will be pretty consistent as we look forward to the next couple quarters.
Chris Holmes
I don’t think that we anticipate our ACL percentage moving a lot, and so I think we’d seen provisioning as we see loan growth. Michael and the rest of the team sitting around the table are better on the inputs of CECL than I am, but I think that that’s probably going to be–you know, we follow the model, but I nervous about releases right now and frankly think that at least until we can see through what has been described as the hurricane potentially on the horizon. Now, that may have been an old description, but until we can see through that, we’re going to be cautious at least in how we do things on the qualitative side.
Jennifer Demba
With less loan growth in the second half than you experienced in the second quarter, it follows that you’d probably see a lesser amount of provisioning than you did in the second quarter in the third and fourth quarters, assuming the outlook on the economic side doesn’t change materially?
Chris Holmes
Yes, I think that’s fair, Jennifer. I think you’re right on.
Jennifer Demba
Okay.
Second question is regarding the mortgage operation. You said you’re not expecting profitability in the second half of the year. Can you just talk about the overall strategy? I know you guys are still making changes on the retail side, but can you just talk about the strategy with mortgage over the long term and when you think it could return to profitability?
Michael Mettee
Yes, so mortgage, retail mortgage in particular, we feel is very important to the core strength of the community bank being well rounded, so we’re interested in continuing to grow the business; but then within our branch footprint, maybe right around the outsides of that as we’ve traditionally done, we’ve had a little bit broader mortgage footprint than the bank footprint, and so very likely that there is a lot of revenue producers that are available coming through the next six to 12 months as we see some consolidation or wind-down of some other mortgage companies, so we’ll be very opportunistic in picking up loan officers that can generate revenue.
At the same time, we realize that we need to create scale and we’ve been working through that, either via technology, Chris mentioned innovations, but just overall process overhaul. There’s a lot of headwinds in the mortgage industry right now – we’re not immune to those higher rates. Chris mentioned home prices broadly normalizing is a good thing, but affordability is still significantly higher than where it was, or significantly more challenging than where it was this time last year, so. We don’t have a direct return to profitability number, but we do see further declines the rest of this year. We’d expect first quarter next year to be challenging as well from a seasonality perspective and have the ship righted and back on our feet.
Chris Holmes
Yes, and I think it’s important – when you have revenues that fall as rapidly as they have in mortgage, and if you look at the projections on mortgage originations expected to be less next year than they were this year, that requires some re-evaluation, I think Mike used the word structurally. We’ve already obviously done that with the wind-down of our direct-to-consumer where we got out of the business, and same we’ve got to really make sure that on the retail side structurally that it is where it returns to contribution in any market environment, so a little bit more adjustment to go there in the third and fourth.
Jennifer Demba
Thanks so much.
Chris Holmes
All right.
Operator
Our next question comes from Kevin Fitzsimmons from DA Davidson. Please go ahead with your question.
Kevin Fitzsimmons
Hey, good morning everyone.
Chris Holmes
Morning Kevin.
Kevin Fitzsimmons
Just a few remaining questions, most have been asked and answered already. The very strong loan growth this quarter, was one of the sources for that the relative absence of payoffs? We heard from another bank that there were virtually zero payoffs this quarter but they expected those to resume in the second half, and that was part of the reason for their strong loan growth moderating likely in the back half. Just wondering if that applies to you as well.
Chris Holmes
Yes, good observation. We probably should have pointed that out, is we did expect a couple of payoffs to hit right at the end of the quarter – they did not and so they went into the next quarter, and so that would have moved the number down a little bit. It’s still been an extraordinary quarter no matter how you stack it, but we did expect a couple payoffs, and so we will see those in the second quarter, and there was just an absence of payoffs, frankly, in the quarter even compared to the first quarter, which we also had–you know, we had 21% loan growth in the first quarter but we had pretty normal payoff activity. We just didn’t have it in the second quarter. Don’t frankly know why that is, but good observation and interesting to me. I didn’t know another bank had said that same thing, but we did see that.
Kevin Fitzsimmons
Okay, that’s great. That’s good to know.
I just wanted to clarify that when you were discussing the margin and where that stands, I just want to make sure I heard it right, that I think you said about 3.70 for the month of June, and is that a good–so that’s a good starting point, and then if we have another Fed rate hike, but I definitely got the message also that the ability to lag on deposit pricing has probably gone much quicker than maybe we might have been thinking, and that’s going to be–that ability is probably going to be less, given what we’ve seen on deposit levels.
Michael Mettee
That’s right, Kevin. Yes – 3.70 is kind of where we were in June, and so definitely a good starting point. That excludes that excess liquidity number I spoke to, that’s on Slide 5. Certainly expect margin to continue to expand, just not at the velocity that it has because of deposit pricing pressure, so I think you said that well.
Kevin Fitzsimmons
Okay, great.
One last one from me. I definitely get we’re at an interesting point where we’re–you aren’t seeing any flashing red signals in terms of credit problems or warning signs, but you’re cognizant of the national trends and expectations out there. Have you seen any changes from bank examiners or regulators in terms of things they’re looking a lot closer at, whether it be certain capital levels, certain liquidity levels, certain kinds of lending they’re digging into or concentrations that’s different than, say, a few quarters ago?
Chris Holmes
From a regulatory standpoint, I don’t know that I’ve seen anything different. I’ll say this – being over the $10 billion threshold, we’ve seen a lot of things that are different with regulators, and so trying to segment those from above the $10 billion threshold into things maybe caused by the environment, I can’t say that I have. I really can’t say that I have. Liquidity has not been an issue, and so I don’t think, other than of course your normal regulatory rigor there and the same on the loan portfolio, other than your normal regulatory rigor, I haven’t seen any significant change.
I will say we put our portfolio through a lot of rigor to try to see things before they happen, and the portfolio is holding up really well. I’d say we have been watching closely, as Michael alluded to both these areas, on just our regular mortgage portfolio, particularly on our higher LTV products, and we’re watching our–Michael described we’ve got about $245 million in manufactured housing, what are made on units, and those–you know, if you go back over the last two years on the credit side, the fact of the matter is it’s been hard–there’s been so much money pumped into people’s pockets, it’s been pretty hard to default over the last two years, and so we’re now watching–and so your past dues are artificially low, your non-accruals are artificially low, particularly in this–you know, because we don’t have a big consumer segment, but all of those things are artificially low, so they–you know, as they begin to move up some, which we expect because, like I said, we’ve got a 14-year history with particularly the MH consumer portfolio, we watch to see how it compares to over that 14-year history, and we saw some past dues tick up in June, but so far it’s staying within our historical bounds. Those are the things that we’re really watching for as we’re watching what happens to the economy over the next months and quarters.
Kevin Fitzsimmons
Okay, thanks Chris.
Chris Holmes
All right, thanks Kevin.
Operator
Our next question comes from Catherine Mealor from KBW. Please go ahead with your question.
Catherine Mealor
Thanks, good morning. I just want to dig into the 3.70 June margin that you talked about, and if you look at it on two components, one on loan yield, maybe where you’ve seen loan yields move through the quarter, and then also on the deposit side, where you maybe saw those for the month of June. As we think about you increasing your deposit growth in the back half of the year, what categories do you think are going to be growing the most – interest-bearing demand or CDs? Where do you think we’ll see most of that deposit growth come from balances? Thanks.
Michael Mettee
Hey Catherine, it’s Michael, good morning.
Catherine Mealor
Good morning.
Michael Mettee
Contractual yields, if I think about kind of April to June, we saw about a 27, 28 basis point increase from around the 4.12 to 4.39 number where we ended June, so saw some pretty decent growth there versus deposits, total deposits. Our total cost of interest-bearing liabilities went from 19 to 30 on total deposits, so about an 11 basis point increase, and if you look at interest bearing, it moved up 15 to 41 from 26, partially offset by that NIB growth, brought down the total cost of deposits, kind of helped balance that out.
Does that make sense?
Catherine Mealor
Yes.
Michael Mettee
That’s sort of [indiscernible] numbers right there.
Catherine Mealor
You said the interest bearing deposit went to 41, you said?
Michael Mettee
Forty-one in June from 21 in April.
Catherine Mealor
Got it, okay. Perfect.
Michael Mettee
And then if I think about where we would likely see growth, I would say it’s going to be in the money market side of the house.
Chris Holmes
It’s going to be in money market, and it will be in time also. We’ve seen–at this point, we’ve seen actually a little more increase in time than we have money market, so I think we’ll see money market increase over the next two quarters, and then I think the next biggest part will come in time. Our interest bearing demand is not one that we typically see move up a lot, so we think it will come in those two buckets.
Catherine Mealor
Great, and money market looks like it hasn’t moved at all, still at 20 basis points. Where do you think that moves to, just given–?
Chris Holmes
Man, I don’t know, Catherine. I was hoping you’d tell us.
You know, we’ve seen things–and by the way, we’re seeing some aggression not on–a little bit, maybe, a little bit on stated rates, but we’re seeing some real aggression on large balances, large balance customers from some of our key competitors, where they’re going out at 1% on money markets to keep the balances because if go back to last quarter, just about all the banks and particularly those headquartered in the middle of Tennessee, but the other parts of our geography are strong too. They all had 20%-plus loan growth, and I think we’re the first to report from these banks right in this general geography, but I think you’re going to see really, really–we’re not going to be the only one that has really strong loan growth, I can assure you. So I think that the battle’s probably going to be the toughest in the money market segment and I think it will go–I think it will go–I don’t know where it will go during the quarter, but we’re already seeing 75 and 80 basis points pretty regularly out there, approaches to some of our customers, so I think it will–you know, it will go up from there.
Michael Mettee
Yes, and just to–Catherine, a little color there, in June money market was 27 basis points, so I’ve seen that start to inch higher, but as Chris mentioned, we think that that will start to move materially more in the second half.
Catherine Mealor
Great, thank you so much.
Chris Holmes
Sure.
Operator
Once again, if you would like to ask a question, please press star and then one. To withdraw your question, you may press star and two.
Our next question comes from Stephen Scouten from Piper Sandler. Please go ahead with your question.
Stephen Scouten
Hey, good morning everyone.
Michael Mettee
Hey Stephen.
Stephen Scouten
I guess my first question, I just wanted to clarify a couple of things. One, the 5% qualitative reserve on the manufactured housing you mentioned at the start of COVID, that’s still in place, still in existence?
Chris Holmes
Yes, it is.
Stephen Scouten
Perfect, and then on the–just looking at some of the line items within expenses, it looks like there was a little bit of a jump in professional fees, and then advertising expense was down a good bit. I’m wondering what was driving that, if some of the advertising was mortgage lead generation cost or something with the shutdown on consumer direct, or what the drivers of those movements were.
Chris Holmes
Yes, so a couple things there. First, and just to clarify, when we said 5% reserve on MH, Michael talked about how that portfolio is really two–three revenue lines, but two of them are on the balance sheet, one on just a servicing line. The two from the balance sheet are MH community portfolio, which is roughly $265 million, $270 million, and then the second part of that is the MH retail portfolio. Community, being commercial loans on manufactured home communities, just a commercial loan. The MH retail is actually loans against the manufactured home units – again, that’s about 240–. That’s the one that has the 5% reserve that we include in our PCL calculations.
Then on the expense side, Michael knows more than I do, but I do know just a couple things. On the professional fees, part of that comes from as we have continued to ramp up different things that we’re doing, we’ve outsourced some things to a couple of our partners, particularly EY has done some things for us on the accounting and audit side, and particularly the internal audit side, and so they’ve been a helpful partner and they’re really good, but they know it and so there’s been some expense related to that.
Then the other that I know of that I’ll comment on is on advertising, and you are exactly right – with advertising, that was a heavy expense in the direct-to-consumer because you’re paying for leads in that business, and since we’re out of that business, we’re no longer paying for those leads and that led to a significant drop in advertising expense.
Michael, any others there?
Michael Mettee
Well, I would just say part of that advertising and marketing line item is expected to increase in the second half of the year as well. Obviously it won’t make up the $2 million difference quarter over quarter, but that’s–Stephen, that’s part of the $2 million to $2.5 million a quarter that I pointed to in the expense growth.
Stephen Scouten
Got it, got it. Then maybe drilling back into loan growth a little bit more, I know your answer to Kevin’s question about slower pay downs, but I’m wondering if you could kind of frame that up in terms of what you’ve seen production-wise, like maybe first quarter to second quarter, if that what relatively flat or if that was also a big increase, and then kind of note some of the movements in the unfunded loan book, how much of the growth may have been from the unfunded book funding and where that is as a total balance today.
Chris Holmes
Yes, I will say we did see a move up in some of our funding, again particularly on construction. We saw some move-up there in terms of the funding. I will say this also on the production – geographically for us, it continues to be really well disbursed. I’d like to say that we just are great at coordinating that. It just continued to work out, but this quarter we had great growth out of our new central Alabama team – they really contributed. Nashville–sorry, Memphis actually, was also a really nice contributor for us. The team there continues to grow in terms of people, but also continues to grow in terms of production, and then our team in northern Alabama, where we’re in Florence and Huntsville, again having good results, and so those were probably our strongest growth areas for that, and they accounted for about a third of our growth coming out of those areas right there, which are all smaller for us in terms of balances and in terms of presence, in terms of branch presence and just number of people, but they really accounted for a lot.
Stephen Scouten
Got it, and how big is that total unfunded book today? I would kind of imagine a lot of that growth maybe was from the legacy Franklin resi construction home builder type construction, but I’m just kind of curious what’s the breakdown there, resi versus more CRE commercial.
Chris Holmes
Yes, so the total unfunded for us is about a $1.5 billion in terms of totals, and let’s see – about 50% of that, it’s really close, about half of that is residential and about half of that is commercial.
Stephen Scouten
Okay.
Chris Holmes
And you’re correct also in that, especially on the resi side, a lot of that is–comes in, I’ll call it Nashville and suburban Nashville, particularly strong in Williamson County and Rutherford County, which brings us quite a bit of comfort. Those are the two fastest growing counties in our entire geography.
Stephen Scouten
Yes, without a doubt. Okay, that’s great.
Then maybe just last thing from me, I appreciate all the color on deposits and where we could see increases there. The deposit beta this quarter looks like it was maybe only about 10% on the interest-bearing deposits given the rate moves, but it looked like the cumulative loan beta was maybe only about 20% as well. I’m just kind of curious how you’re thinking of loan betas moving forward. I know, Michael, you gave some color kind of throughout the quarter, and if I do that math, it looked like maybe 67% on the variable rate production if I break that out. I guess I’m just kind of wondering how we can think about a loan beta on the whole 50/50 fixed-floating kind of split, what you’re seeing on fixed rate loan spreads.
Michael Mettee
Yes Steve, that’s a great question. One of the things that we’ve experienced this first half of the year is there was a lag in competitive move-up in loan pricing, and so Chris mentioned in his part of the discussion, we expect to see higher prices on new production going forward. The fixed rate part of our portfolio in new production was relatively flat in the quarter, so I think you’d start to see as the market is now adjusting to higher rates, some of the commitments that were made 30, 60 days ago have been baked, and so the newer commitments are certainly coming on at higher rates. Competitive pressures again are still out there – you know, you’re not getting 100% beta by any means, but we are seeing a little bit more 50 and up kind of betas, is what I would expect on that going forward.
Stephen Scouten
Okay, super. That’s very helpful. Thanks for all the color, guys, and congrats on a great quarter.
Chris Holmes
Thanks David.
Operator
Ladies and gentlemen, with that, we’ll be ending today’s question and answer session. I’d like to turn the floor back over to Chris Holmes for any closing comments.
Chris Holmes
All right. As always, we appreciate your interest, we appreciate the questions, and we appreciate your support. We will–if there are other things, we certainly are available for telephone calls if people have further questions. Everybody have a great rest of your day.
Operator
Ladies and gentlemen, with that we’ll end today’s conference call and presentation. We do thank you for joining. You may now disconnect your lines.
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