First Citizens BancShares, Inc. (NASDAQ:FCNCA) Q3 2022 Earnings Conference Call October 27, 2022 8:30 AM ET
Company Participants
Deanna Hart – Senior Vice President-Investor Relations
Frank Holding – Chairman and Chief Executive Officer
Craig Nix – Chief Financial Officer
Tom Eklund – Treasurer
Marisa Harney – Chief Credit Officer
Conference Call Participants
Brady Gailey – KBW
Stephen Scouten – Piper Sandler
Brian Foran – Autonomous
Christopher Marinac – Janney
Operator
Ladies and gentlemen, thank you for standing by, and welcome to the First Citizens BancShares Third Quarter 2022 Earnings Conference Call. At this time, all participants are in listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. [Operator Instructions] As a reminder, today’s conference is being recorded.
I’d now like to introduce the host of today’s conference call, Ms. Deanna Hart, Senior Vice President of Investor Relations. Please go ahead.
Deanna Hart
Thank you. Good morning, everyone, and thank you for joining us for First Citizens Bank’s third quarter 2022 earnings call. It is my pleasure to introduce our Chairman and Chief Executive Officer, Frank Holding, as well as our Chief Financial Officer, Craig Nix, who will provide an update on our third quarter 2022 performance and share our outlook for the fourth quarter and fiscal year 2023.
We are pleased to have several other members of our leadership team in attendance with us today, who will be available to participate in the question-and-answer portion of the call if needed. During the call, we will be referencing our investor presentation, which you can find on our Investor Relations website. An agenda for today’s presentation is on Page 2 of these materials. Following the completion of the presentation, we’ll be happy to take questions.
As a reminder, our comments will include forward-looking statements, which are subject to risks and uncertainties that may cause our results to differ materially from expectations. We assume no obligation to update such statements. These risks are outlined for your review on Page 3 of the presentation. We will also reference non-GAAP financial measures in the presentation.
Reconciliations of these measures against the most directly comparable GAAP measures are available in the appendix. Finally, First Citizens is not responsible for and does not edit nor guarantee the accuracy of our earnings teleconference transcripts provided by third parties.
With that, I will turn it over to Frank.
Frank Holding
Thank you, Deanna, and good morning, everyone. We appreciate all of you joining us today. We hope this call will be informative and give you a sense of the success we enjoyed through the third quarter and the path we’re on moving forward. We announced another quarter of solid financial results this morning, and I’m confident about both our trajectory moving forward and our ability to continue delivering long-term shareholder value. While we face some economic headwinds and the potential for a recession, we’ve not seen meaningful signs of stress in our credit portfolio to date.
We are encouraged by the resiliency of our clients in the face of elevated inflation and rising interest rates. During the quarter, loan growth momentum continued and was broad across our lines of business. The strong quality loan growth we experienced this quarter in tandem with the positive asset re-pricing we have experienced in the rising rate environment helped produce another quarter of strong net interest income growth and positive operating leverage.
Starting on Page 5, I’ll highlight the 10 takeaways for the quarter and Craig will take a deeper look at our third quarter results and prospects moving forward in the next sessions of this presentation. First, we are pleased to announce that we have repurchased 99.4% of the 1.5 million shares of Class A common stock authorized by our Board for repurchase as of the market close yesterday.
The 1.5 million shares represents approximately 10% of the Class A common shares or 9.4% of the total common shares outstanding prior to the repurchase. This repurchase program allowed us to return excess capital to our shareholders and set the foundation to deliver even stronger returns in the coming quarters, given a more optimal capital level.
The second one, we continue to focus on merger optimization efforts and remain confident that we will achieve our cost savings goal of $250 million. We estimate that we will come in slightly below our merger cost estimate of $445 million.
Number three, pre-provision net revenue continued to be a bright spot, growing by 21.3% over the second quarter indicative of significant margin expansion, solid fee income growth generation and good expense management.
Fourth, net interest margin expanded by 36 basis points during the quarter due to higher interest rates and strong loan growth, only partially offset by higher funding cost and borrowings.
Five, expense management continues to be a focus, and we achieved an efficiency ratio during the quarter of 53%. We’re especially pleased with our efficiency ratio given the inflationary headwinds, which are impacting the industry and market as a whole.
Six, for the second consecutive quarter, we’ve had a provision build related to deterioration in CECL macroeconomic forecast in addition to maintenance reserves to cover loan growth and net charge-offs.
Seven, despite a larger provision expense compared to last quarter, credit quality remains excellent. The net charge-off ratio during the quarter remained below non-stressed historical averages and decreased compared to the linked quarter.
Further, our non-accrual ratio declined during the quarter. We remain pleased with our loan portfolio performance and as covered in detail on last quarter’s call, our portfolios are underwritten to endure times of economic stress. With that said, we continue to monitor the potential impacts of higher rates, inflation, a possible recession and geopolitical instability on our loan portfolio.
Eight, loans grew at an annualized rate of 12% during the quarter, marking another strong quarter. Loan growth was broad in both commercial and the general business bank – General Bank business segments and was an output of the long-term business development efforts from our lenders and our continued emphasis on adding staff in areas that can support quality growth.
Nine, while we continue to see a decline in total deposits, we were pleased that the rate of decline was lower than in the prior quarter. As expected, we experienced further attrition in higher-cost acquired money market deposits. The decline was partially offset by growth in our direct bank as we look to remain competitive in the online space.
Ten, as a result of strong loan growth and reduced deposits, we did add $3.9 billion in wholesale borrowings during the quarter. Despite the change in our funding mix, we feel good about our current and pro forma liquidity position.
Turning to Page 6. We provide more detail on our share repurchase plan progress to date. We were able to repurchase shares faster than anticipated, allowing us to quickly rightsize our capital closer to the target operating range. We estimate that the repurchases will be accretive to 2023 EPS by approximately 10%. Further, while there is initial dilution to TBV in the third quarter of $15.75 we estimate this will be earned back in less than three years.
For now, we are pausing our repurchase plan as we monitor loan growth and the macroeconomic environment moving forward. We plan to submit our capital plan in the second quarter of 2023. After consideration of that plan, it will be our intent to return any excess capital over our internal targets to shareholders in the form of share repurchases beginning in the second half of next year.
With that, I’ll turn it over to Craig to expand on our third quarter financial results and share our financial outlook moving forward. Craig?
Craig Nix
Thank you, Frank, and good morning, everyone. Turning to Page 8. I am happy to report GAAP net income of $315 million or $19.25 per common share, yielding an annualized ROE of 12.49% and an ROA of 1.16%. On an adjusted basis, net income was $338 million or $20.77 per common share, yielding an annualized ROE of 13.47% and an ROA of 1.24%.
Comparable EPS, ROE and ROTCE shown on this page for prior periods, our First Citizens BancShares on a stand-alone basis. ROA, PPNR ROA and NIM and the net charge-off ratio are presented as if the companies were combined during the historical periods. I’ll dive a little deeper into these components in a moment as we look at the underlying trends that produce our results.
Continuing on to Page 9, we provide two condensed income statement, the one at the top representing our reported GAAP results and the one at the bottom, supplementing those results showing net income adjusted for notable items. Both income statements are presented as if FCB and CIT reemerge during the historical periods.
The section in the middle of the page summarizes the impact of notable items to derive the adjusted results from the reported results. The most significant notable items were $139 million and depreciation and maintenance expense on operating leases as well as $33 million in merger-related expenses.
Page 11 provides a detailed listing of the notable items affecting the quarter along with their impact on net income and diluted earnings per share. I will now focus on the adjusted results at the bottom of the page. Pre-provision net revenue increased by $89 million or 21.3% over the linked quarter and by $224 million or 79.4% over the comparable quarter a year ago.
The increase for both periods was driven by positive operating leverage as net revenues grew at a faster pace than expenses. Net income available to common shareholders was $326 million for the quarter, up from $270 million in the second quarter and $262 million in the third quarter of the prior year.
The increase during the linked quarter was due to an increase in pre-provision net revenue and lower preferred dividends, partially offset by an increase in provision for credit losses. The increase compared to the same quarter a year ago was due to higher pre-provision net revenue, partially offset by higher preferred dividends and increase in provision for credit losses.
Page 10 provides a view of our year-to-date results for your reference. Page 11 provides detail with respect to notable items for the relevant quarterly and year-to-date periods. During the third quarter, these adjustments had a minimal net impact adding $1.52 to GAAP EPS.
Turning to Page 12. Net interest income totaled $795 million during the quarter, up 13.6% over the second quarter. Interest income increased by $149 million over the linked quarter due to loan growth and a higher yield on earning assets. Interest expense increased by $54 million due to higher funding costs as the rate paid on interest-bearing deposits increased by 24 basis points, and we added wholesale borrowings to cover the decline in deposits since the end of the first quarter. An analysis of the comparable quarter and year-to-date periods is provided at the bottom of the slide for your reference.
Turning to Page 13. We highlight the drivers of the 36 basis points and 87 basis points margin expansion from the linked and comparable prior quarters, respectively. I will focus my comments on the change during the linked quarter where the 36 basis points margin expansion was due to a higher yield on earning assets and loan growth, partially offset by a higher cost of interest-bearing deposits and the impact of additional borrowings. While funding costs increased, partially offsetting some of the asset re-pricing during the quarter, we believe we are well-positioned to increase our net interest margin over the coming quarters, albeit at a slower pace than this year.
There will be some catch-up in deposit re-pricing over the next few quarters amidst higher interest rates and strong industry competition for funding. Nevertheless, we believe the strength of our balance sheet will enable us to weather these headwinds favorably, especially in light of continued momentum we expect on increasing asset yields.
Turning to Page 14. The line graph on the left-hand side of the page indicate we continue to be asset sensitive, albeit slightly less than in prior quarters. We had and will continue to take a measured approach to interest in market rate risk management to position our balance sheet to benefit from higher interest rates while at the same time providing downside protection against lower interest rates.
We estimate that a 100 basis points shock in rates would increase net interest income by 3.4% and a 100 basis point ramp, which increased by 1.5% over the next 12 months. The main drivers of our asset sensitivity are our variable rate loan portfolio, which represents 45% of total loans, our cash position and expected modest deposit betas driven by our strong core deposit base. We estimate our full-cycle deposit beta at 25%, which is aligned with our historical experience.
Turning to Page 15. We provided some additional information on deposit beta. In terms of our deposit base, 59% of our deposits exhibit lower betas and 41% exhibit mid to higher beta. Our cumulative beta through the third quarter was 6%. We expect the cumulative beta to be 14% at year-end as our stand-alone fourth quarter deposit beta is estimated to be 34%. Again, over the interest rate hiking cycle, we forecast our beta to be approximately 25%.
Turning to Page 16. I will focus my comments on the increase in non-interest income from the linked quarter analysis of the comparable prior year quarter and year-to-date periods, for non-interest income increased by 20% and 16%, respectively, is presented for your reference. Non-interest income increased by $6 million over the linked quarter, with core increasing by $5 million. $5 million increase was primarily due to higher capital markets income and an increase in rental income on operating leases, partially offset by a decline in service charges on deposit accounts as the impact of our recent changes to OD/NSF fees took effect. The higher net rental income on operating leases was due to increased gross rental income on favorable re-pricing rate offsetting combined higher depreciation and maintenance expense.
Looking to the fourth quarter, we expect non-interest income to be flat to slightly down due primarily to elevated capital market fees in the third quarter. Looking into 2023, we see continued momentum in our wealth and payments businesses as a result of organic growth, offsetting the full year-over-year impact of service charges. While we expect gross rental income on operating leases to continue to increase on the heels of strong utilization and favorable car re-pricing rate.
We do anticipate year-over-year net operating lease income to be flatter due to the timing of more recertification costs scheduled in 2023 as well as the impact of inflation on labor and car repairs. We also see slight pressure on factoring commissions as potential consumer demand slows.
As of the full year impact of NSF/OD changes, we would project mid-single digit percentage growth of longest income in 2023. However, with the impact of NSF/OD changes, we expect low-single digit percentage growth.
Turning to Page 17. Linked quarter non-interest expense increased by $12 million, $11 million of which was core. The $11 million increase was primarily driven by a $10 million increase in personnel expense. This is due to net staff additions, revenue-related incentive compensation, lease increases from inflationary pressures, especially as it relates to new hires as well as higher temporary personnel costs.
The net staff additions are primarily related to building out teams to support our move to large bank compliance as well as the backfill vacancy. The other primary driver was a $6 million increase in marketing expenses related to direct bank efforts to maintain and attract new deposit balances.
These were partially offset by decreases in FDIC insurance and professional fees. We are pleased that our efficiency ratio improved again during the quarter, dropping to 53.34%. We feel that our continued recognition of cost saves is helping maintain expense growth in the low-single digits that otherwise would be in the range of 5% to 6%, given inflation headwind.
Looking forward, we expect to continue to feel the pressures of inflation, especially as it relates to wages, professional service and contract call. Despite this, we feel confident in our ability to maintain our efficiency ratio in the lower 50s in the coming quarters as we removed another estimated $70 million out of our cost base helping to neutralize natural non-interest expense growth that exclusive of merger cost saves would be closer to mid-single-digit range for this year.
Looking to 2023, we expect a low to mid-single-digit percentage increase in adjusted non-interest expense year-over-year driven mainly by inflationary pressures in salaries and wages, higher revenue-related incentives. The across the industry increase in FDIC assessment rates, higher marketing costs in the direct bank, all being partially offset by remaining cost saves. We are on track to recognize $200 million in cost saves by the end of 2022 and the full $250 million by the end of 2023.
Page 18 outlines our non-interest income and expense composition, which remained relatively stable compared to the prior quarter with the exception of a decline in deposit service charges from the NSF OD exchanges I referenced earlier.
Page 19 shows balance sheet highlights and key ratios. I will cover the significant components on subsequent pages of the deck.
Turning to Page 20. We had another quarter of strong loan growth with loans increasing by $2.1 billion over the linked quarter or 12% on an annualized basis as our teams continue to generate production above target levels and we benefit from reduced prepayments due to the higher interest rate environment.
Loan growth for the quarter was broad-based. General Bank loans grew at an annualized rate of 12.8% led by the branch network. Growth was primarily concentrated in business and commercial loans. Elsewhere, while overall mortgage loan production was down, we had growth in mortgage loans as we have originated more ARM products that we keep on the balance sheet. Our mortgage pipelines are continuing to slow given the rate environment and towards the end of the third quarter, over 90% of our funded mortgage loan volume was for purchases compared to an approximate 50-50 split at the same time last year.
The commercial bank also saw further positive momentum, posting an annualized growth rate of 11.7%, led by our industry verticals and business capital, as well as seasonal growth in our factoring business as retail businesses begin to ramp inventory for the holiday season. In our industry verticals, we continue to see strong production in energy, health care, in tech, media and telecom.
In Business Capital, origination in the Technology segment is strong, and we are seeing some quarter-over-quarter improvement in the office imaging space. On a year-over-year basis, loans increased $3.8 billion or about 5.8%, primarily due to increases for similar reasons I just discussed. We are very pleased with the execution of our sales teams following the merger this year, and the strong performance has been spread across many business lines.
Moving forward, we feel positive about our loan growth prospects. However, we do expect loan growth to moderate to mid to high single-digit percentage point in the fourth quarter as the absolute rate environment puts downward pressure on customers’ lending appetite.
We anticipate mid-single-digit percentage points increase in loans for the full year 2023, driven by continued momentum in our business and commercial lending and the branch network increased hiring and expansion of our middle market business, continued expansion of our wealth business through adding bankers that expanded presence outside of the Carolinas market and further growth in both our industry vertical and Business Capital segment. We do acknowledge that uncertainty around the external environment, especially with regard to economic risk and cost actual growth rates to deviate from our expectations.
Page 21 shows our loan proposition by type and segment. Composition has not deviated significantly from the second quarter.
Turning to Page 22. Deposits declined by $1.8 billion or 7.9% on an annualized basis from the linked quarter. The main driver of the decline was a $1.8 billion decline in interest-bearing deposits due to reductions in money market and checking the interest deposits as we continue to see more rate-sensitive customers and our acquired branches begin to move funds in response to continued rate increases.
Despite the decrease in interest-bearing deposits, we are pleased that non-interest bearing deposits grew by $11 million since the end of the second quarter. Pro tier within the branch network, which we attributed a continued emphasis on developing client relationships, which includes not only fulfilling our clients’ lending needs, but also focuses on depository and other banking service needs.
Our branch network remains dedicated to its strategy to develop full client relationships and we believe this strategy will continue to help us increase non-interest bearing deposits in the coming quarters despite a challenging funding environment. Additionally, we were encouraged to see growth in our direct bank as we have worked to increase balances in the third quarter to help fund our strong loan growth.
We do anticipate continued growth in the direct bank in the fourth quarter to help support loan growth. Our cost of deposits increased by 16 basis points during the quarter to 35 basis points. The increase is representative of the impact from the Fed rate hikes and our need to raise rates to stay competitive with IPOs. We do remain guarded on the outlook for absolute deposit growth for the remainder of 2022 as the interest rate environment continues to evolve and the Fed impact liquidity in the system by deleveraging its balance sheet.
However, we do expect mid-single-digit percentage growth in deposits in the fourth quarter as we have raised our sheet rates and are offering attractive money market and CD specials in our markets. In addition, we plan to add broker deposits during the quarter.
For your reference, we have included high graphs on Page 23 showing deposit composition by type and segment.
Turning to Page 24. Our balance sheet continues to be funded predominantly by deposits, representing over 91% of our funding base. As Frank mentioned in his comments, we’ll note an increase in FHLB borrowings this quarter, which is reflective of our continued strong loan growth and deposit decline.
We believe the concentration metrics will begin to flatten as our deposit balances begin to modestly increase in the fourth quarter. I would like to point out that the FHLB borrowings that we added are variable rate and provide quarterly call features, allowing us the flexibility to remove this funding source as we work to further grow deposits in future quarters.
Continuing to Page 25, you’ll see that our credit quality continues to be very strong. The net charge-off ratio for the quarter remained at historic lows at 10 basis points and was down 3 basis points from the linked quarter. Provision for credit losses increased by $18 million to $59 million this quarter, primarily as a result of deterioration in CECL macroeconomic scenarios, only partially offset by improving credit quality and portfolio mix. We also provided maintenance reserves for loan growth and to cover net charge-offs.
Moving to the bottom of the page. The non-accrual loan ratio declined again, this will over to 0.65% from 0.76% in the prior quarter and from 0.86% in the same quarter in the prior year. Despite the provision build, the ACL ratio remained flat at 1.26% and covering quarterly net charge-offs 12.6 times and the five-quarter rolling average 15.8 times.
Moving on to Page 26, we provide a roll forward of the ACL from the linked quarter. The ACL was up $32 million to $882 million. Net charge-offs totaled $18 million during the quarter, and portfolio mix had the impact of reducing the ACL by $7 million. While the CECL macroeconomic forecast shows some deterioration, we spend to a $42 million increase in the ACL. Actual performance and credit metrics remain strong, subtracting $5 million from the second quarter ACL. Loan growth added $20 million.
Turning to Page 27. Our capital position remains strong with all ratios above or in the upper end of our target ranges. As of the end of the third quarter, our CET1 ratio was 10.37%, and our total risk-based ratio was 13.46%. The 98 basis points decline in our CET1 ratio is primarily the result of our share repurchase activity. Net income growth outpaced the loan-driven risk-weighted asset growth. The decrease in CET1 helped to optimize our capital ratios closer to our target range, whereas before our repurchase – share repurchase plan, we were well above the range. During the third quarter, tangible book value per share declined modestly due to negative AOCI adjustment and the impact of the share repurchases not being completely offset by strong earnings.
Turning to Page 29. I will conclude by discussing our financial outlook for the fourth quarter of 2022 and 2023 fiscal year. On Page 29, the first column with our third quarter 2022 results. The numbers for non-interest income and expense are adjusted for notable items. Column 2 provides our guidance for the fourth quarter and Column 3 for the full year 2022. Column 4 is our initial updated look at 2023 based upon our current forecast and projections.
There are a lot of variables that could impact this projection, and this guidance assumes any type of recessionary impact are mild. From a loan growth perspective, we expect a mid to high single-digit percentage range in the fourth quarter and a mid-single-digit percentage growth range in 2023. We saw a slight slowdown in loan growth in the third quarter compared to the second, while still eclipsing 10% annualized growth.
We expect this rate of increase to moderate due to the increasing rate environment and in fact, have seen some pipelines begin to slow in areas such as mortgage and real estate finance. On deposits, we are actively taking steps to curb some of the higher-priced deposit attrition we have seen in the past two quarters. Our expectation for the fourth quarter is mid-single-digit percentage growth, bolstered by continued growth from our branch network, in addition to a focus on adding balances in our direct bank through competitive product offering as well as increasing our broker deposit position.
For 2023, we expect low to mid-single-digit percentage growth as non-interest bearing and time deposits grow, while money market balances remained flat. We are committed to taking the steps necessary to grow our deposit base to support loan growth, even in the face of rising deposit cost pressure. For net charge-offs, we expect a gradual return to pre-pandemic non-stress levels but have not seen any meaningful strength in our portfolios to this point.
We expect net charge-offs in the range of 15 to 25 basis points in the fourth quarter and in the 20 to 30 basis points range for 2023. The increase in our net charge-off projection is not due to any apparent stress in our portfolios in present time. Rather, we think the impact of inflation and rising rates coupled with mild recessionary pressures may result in our losses returning to more historic levels, which on a combined basis are close to 25 to 30 basis points.
Our current forecast assumes that the Fed will raise rates by another 125 basis points in the fourth quarter for an ending Fed funds effective range of 4.25% to 4.5% by year-end. Our expectation for 2023 is a rate remained flat for the duration of the year with the first rate cut not anticipated until early 2024.
For net interest income, we expect low single-digit percentage growth in the fourth quarter and a generally flat margin. For the full year 2023, we expect net interest in from growth in the mid-teens percentage range, largely on the heels of margin expansion that has occurred in the second half of 2022.
2023, from a margin perspective, we expect a gradual expansion from the level seen in the third quarter of 2022. While we will continue to see interest income expansion from earning asset repricing upwards, there remains a lag on deposit pricing and the momentum from deposits repricing in the fourth quarter 2022 in the first quarter of 2023 will largely offset the increase in asset repricing.
As I stated earlier, our cumulative deposit rate at the end of the third quarter was 6% and we expect it to be closer to 35% over the next two quarters, resulting in a cumulative beta as of year-end 2022 of 14% and 25% cumulative over the rate hike cycle. Given that we are currently in unprecedented times as it relates to the velocity of rising rates and the ultimate impact the competition for deposits may have upon pricing, betas could be higher than we were estimating causing actual results to deviate from these expectations.
I touched on our non-interest income and expense projections in my earlier comments, so I will not repeat them here. Given that we have completed our share repurchase plan and much has changed since we gave EPS guidance earlier this year, we are updating that guidance here. Even though we intend to resume share repurchases in the second half of 2023, conditions warrant, and our projections hold the EPS estimates do not include any repurchases in 2023.
For the fourth quarter, we expect adjusted earnings per share in the $21 to $23 range, which is in line to slightly above the third quarter. For the full year 2023, we expect adjusted earnings per share to be in the $95 to $100 range. This does not include the after-tax impact of an estimated $50 million to $60 million merger call, which will take the estimate down to an estimated range of $93 to $98.
We feel good about our earnings momentum heading into 2023 despite economic headwinds. We expect to maintain positive operating leverage as the momentum from margin expansion the last two quarters carried over into 2023 and the last leg of our merger synergies helped to reduce the velocity of expense growth impacted by inflation.
In closing, we are very pleased with our third quarter results and the hard work put in by our associates to make it happen. We remain confident in our ability to grow and deliver on our commitments as First Citizens is well positioned across a broad range of economic outcomes given our relationship-focused client model, conservative credit culture, diverse business mix, strong capital position and most importantly, our shift from a focus on integration to execution and growth.
With that, I will now turn the call back over to the operator for instructions for the Q&A portion of our call.
Question-and-Answer Session
Operator
Thank you. [Operator Instructions] Our first question comes from Brady Gailey of KBW. Brady, your line is open. Please proceed.
Brady Gailey
Thank you. Good morning, guys.
Frank Holding
Good morning.
Brady Gailey
Good morning. I wanted to start on the buyback for the back half of next year. If I look at your common equity Tier 1 today, it’s 10.4%. If you include the buybacks that you’ve done so far in October, that takes it down to roughly 10% pro forma. You’ll be growing that ratio back up to almost 11% by mid next year. So as far as potential sizing of the buyback for the back half of next year, I mean, do you think we could see another kind of sizable buyback similar to the one you guys just completed?
Craig Nix
Brady, if our projections hold, we would contemplate a fairly sizable buyback in the second half of next year. I would just point out that in the fourth quarter and first quarter, we will be operating much closer to our target ranges. And then we begin to – if our projections hold, we begin to lift out of that in the second quarter of next year.
Brady Gailey
And Craig, the target range is still I know your range is 9% to 11%, but kind of the real focus is still 10% common equity Tier 1.
Craig Nix
Yes. And Brady, we dropped that target range to 9% to 10% from 9% to 11% in our capital plan. So the range now for CET1 is 9% to 10%.
Brady Gailey
Okay. All right. And then as you guys continue to get used to CIT being in the mix are there any – I know there are several businesses that came over such as factory and railcar and equipment finance. And the other, there were some unique niches in there. Is there any kind of strategic update? Or is there any change in how you guys are thinking about some of those more unique CIT businesses going forward?
Craig Nix
I’ll let Howard will address that.
Unidentified Company Representative
Yes. Brady, I would say not really. I think now that certainly, we’re 10 months into the merger being consummated and certainly a lot longer runway than that from point it was announced. I think we’re very pleased with where we are in this business. As I think you look at rail factoring, equipment finance, we’ve got very strong kind of industry positions. I think we’ve been very pleased this year with certainly kind of rail turnaround and where the utilization is. I think factoring, we’ve had good momentum in commissions and then the business capital, we’ve really had strong growth this year and see certainly further room to run there. So I think the subsequent period, everything is going well, and we’ve been able to really retain key good leadership there in those spaces.
Brady Gailey
Okay. Great. Thanks for the color guys.
Craig Nix
Thank you, Brady.
Operator
Thank you. Our next question comes from Stephen Scouten of Piper Sandler. Stephen, your line is open. Please go ahead.
Stephen Scouten
Yes. Thanks. Good morning, everyone. I guess, I was wanting to drill down a little bit around the funding expectations moving forward. I know you outlined some expected deposit growth in the fourth quarter and then into 2023. I’m just kind of wondering around the broker deposits, what sort of term you’re thinking about adding there what rates you’re seeing? And then also kind of why it seems like you favor the direct bank acquisition of deposits versus the acquired branches, kind of what the relative benefits are there? Thanks.
Craig Nix
Let me start with that last point. I don’t think we favor one over the other. It’s just that the direct bank has achieved stronger growth as we move into the fourth quarter. So it’s really not – there’s no signaling here that we favor one channel over the other. In terms of just – and I’ll let Tom address the birth of deposit question. But in terms of the – sort of the funding mix we would anticipate that we gravitate away from wholesale funding back to deposits, that 91% deposits gradually going up to around 94% in 2023.
So from a funding mix standpoint, we certainly would rather have more deposits. Although we’re not alarmed by 91%, our liquidity metrics look good, we’re green. We’re still managing to our low liquidity risk appetite. So no real concerns there, but we would see a gradual shift back to deposit. And I’ll let Tom talk a little bit about the strategy around the broker deposits.
Tom Eklund
Yes, sure. So on the brokerage side, I mean, we’re obviously trying to split maturities up to not create future cliffs, where we have maturities sort of bundled in months there. So we’ve used the blended approach. We’ve gone from 12 months, 18 months, 24 months and 36 months here. Start off the quarter and expect to continue that over the coming months, sort of spread those maturities up. We view those broker TDs, although they fall under the deposit category, the sort of a hybrid between sort of the deposit base and the wholesale funding to help with that funding difference between the loan growth and deposit.
Stephen Scouten
Okay. Very helpful. And then just kind of maybe a little bit longer term as you look ahead, starting the CCAR process next year. I’m just kind of wondering where you guys are in that process, level of comfortability there? And will that be the biggest driver, I suppose, on ultimately the size of the share repurchase?
Craig Nix
Absolutely a factor. It will be wrapped in. Capital planning certainly will be – we’ll consider whether our capital plan would allow for a repurchase. Again, we think our numbers and capital ratios will bear that out. In terms of CCAR, that’s definitely the most significant change to our capital program as far as being part of the LFI framework and subject to CCAR.
We will obviously be sign the capital buffer based on the Federal Reserve bank stress testing our portfolio and support those changes, massive efforts are underway internally and have been for some time. We’ve completed a GAAP assessment of our current practices around capital planning and stress testing. We’ve also completed our annual stress test we got earlier this year, and we feel comfortable about our – and that’s how we establish our targets. We feel comfortable about those, and we feel confident that we will be able and prepared to meet all regulatory requirements.
Stephen Scouten
Great. Very helpful. Thanks for the color guys and great quarter.
Craig Nix
Thanks, Stephen.
Operator
Thank you. Our next question comes from Brian Foran of Autonomous. Brian, your line is open. Please proceed.
Brian Foran
Hi, good morning. I appreciate the EPS guide and all your comments about macro uncertainty that go into it. I just want to clarify, it sounds like you’re embedding a very mild recession in there. And then B, any thoughts you can help us with on the size of reserve builds included in that 95 to 100 EPS guide and any thoughts around sensitivity if the economy does better or worse than your base case?
Craig Nix
Well, Brian, in terms of – and I’ll talk about the reserve build in terms of provision. I don’t think we contemplate a massive increase in the reserve ratio. But in terms of provision on the increased charge-offs, we would expect around a let’s say, $100 million increases of vision expense next year, which directly correlates to increased charge-offs.
Obviously, as it relates to the – driving the ACL percentage higher. We monitor both internal and external factors and the determination of the ACL internally. We’re looking at our credit quality indicators. Are we seeing pockets of deterioration in our portfolios. Our internal metrics trending up in a bad way.
And then all we have in requests for concessions and extensions. And none of that, and Marisa correct me if I’m wrong, but none of that is apparent right now or forecasted into our ACL percentage for provisioning next year. We also really monitor the external environment as part of our ACL process.
So at the end of the day, to increase the percentage that would be driven by some specific deterioration beyond what’s already covered in sort of the baseline and downside scenario waving of our ACL. We wait the downside 50%, we wait the baseline to 20 and the – if the upside is 30 and those upside and downsides represent – or project 5% are based on an upside about a 5% unemployment rate the downside about 8% and I think we’re some ways off on that.
So in terms of projecting right now, we felt like it was prudent to maintain the reserve percentage but also add charge-offs. So and those things sort of fungible what we could add to macroeconomics and now let Craig – vice versa. Right now is our best yes, where we think we are. So at present time, things look good and any provision deal would be related to macroeconomic deterioration in sort of the Moody’s forecast. I hope that answers the question, long winded, but that’s one that’s probably in terms of variability or in precision in the forecast, it would be provisioned and then obviously, deposit bases.
Brian Foran
Got it. And just to make sure on tariff rating correctly. So basically, you’re saying you’re building in reserve builds to support loan growth next year but you’re not building in big changes in the allowance to loan ratio beyond that.
Frank Holding
That’s correct.
Brian Foran
Okay. Appreciate it and totally hear you on the uncertainty. I think you’re one of the few banks willing to even put your neck out there with an EPS guide. So I appreciate that.
Frank Holding
Thank you, Brian.
Operator
Thank you. Our next question comes from Christopher Marinac of Janney. Christopher, your line is open. Please proceed.
Christopher Marinac
Hey, thanks. Good morning. And Craig, I’ll start with the kind of similar question that Brian did, which is just to get into just the classified and criticized trends. I mean is there anything sort of signaling anything higher just in terms of the charge-offs guide for Q4 with alone just higher provision next year.
Craig Nix
In terms of criticized percentage, Class 5 percentage, we really are sort of tracking those trends pre-pandemic or you could say, at CECL adoption. And when you look at those ratios in the fourth quarter of 2019, our criticized percentage was 5.16%. It’s down to 4.91% and has really declined every quarter. And these are combined for CIT and First Citizens for comparability purposes.
They turned it down every quarter after hitting a high of 8.28% in the fourth quarter of 2020. And from a classified perspective, at the fourth quarter, we were at 3.35%, hit a high of 5.18%. They also have declined every quarter but remain about 50 basis points over the fourth quarter 2019 at 3.83% and then we look at other credit quality metrics and about eight of nine of them are better than the pre-pandemic/CECL adoption date. So we feel really good about our credit quality trends. Marisa, do you have anything to add to that?
Marisa Harney
No, that’s absolutely right. All of our metrics have been grinding tighter meaning better, obviously, the pandemic had its impact on those numbers, as Craig indicated, as you see it went up and then back down but we’re very pleased to see our numbers back to that pre-pandemic level. And in terms of what we see coming in, obviously, the totals are going down.
We have some concerns not huge and not of an impact nature, but just watch item – we continue to watch commercial real estate and in particular, office given all of the continued confusion about back to office. And it’s some small, again, very small movement in roll forward from 30- to 60-day delinquencies in our small business leasing business. But again, these are relatively small portfolios.
Obviously, what you all and we all look for is the canary in the coal mine. And so far, those are the only areas where we’ve curtailed some originations. We’re not going to be doing new Class B office anytime soon. And we’ve tightened up the buy box around some of our auto decision small business in that space. But each of those portfolios are in the kind of $2 billion range. So not anything that I think would drive those numbers to be materially different than what Craig said.
Christopher Marinac
Great. Thank you for all the background that’s really helpful. And then, Craig, just to go back to the funding comment you made earlier. If 91% core goes up to 94%. I think I heard you right. Is that a good figure to think about kind of the longer-term that you stay well above 90%? Or is there kind of an upper bound where you might be something north of 10% on just the wholesale piece?
Craig Nix
Well, just for a little context there. We’ve been as high as 96% there combined and recently, we were there. So 94% starts to get it back to that level. And again, I don’t want to send in a lot – we were an alarmed at 91%. But obviously, we’d rather have more by funding represented by core deposits. So that’s trending in our opinion in the right direction.
Christopher Marinac
Great. Understood. Thank you, again for all the information this morning.
Craig Nix
Thank you, Chris.
Operator
I’m not showing any further questions at this time. So I’d like to turn the call back over to our host for any closing remarks.
Deanna Hart
Thank you, and thank you, everybody, for participating in our call today. We appreciate your ongoing interest in our company. And if you have any further questions or need additional information, please feel free to reach out to our Investor Relations team. I hope you all have a great day.
Operator
Ladies and gentlemen, this concludes today’s conference call. You may now disconnect.
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