First Financial Bancorp

NASDAQ:FFBC

Earnings Call Transcript 2022-Q1

[Operator]

Hello, and welcome to the First Financial Bancorp First Quarter 2022 Earnings Conference Call and Webcast. My name is Emily, and I'll be coordinating the call today. [Operator Instructions]

I now have the pleasure of handing the call over to our host, Scott Crawley from First Financial Bancorp. Please go ahead, Scott.

[Scott Crawley, Corporate Controller]

Thank you. Good morning, and thank you, Emily. Good morning, everyone, and thank you for joining us on today's conference call to discuss First Financial Bancorp first quarter 2022 financial results. Participating on today's call will be Archie Brown, President and Chief Executive Officer; Jamie Anderson, Chief Financial Officer; and Bill Harrod, Chief Credit Officer.

Both the press release we issued yesterday and the accompanying slide presentation are available on our website at www.bankatfirst.com under the Investor Relations section. We'll make reference to the slides contained in the accompanying presentation during today's call.

Additionally, please refer to the forward-looking statement disclosure contained in the first quarter 2022 earnings release as well as our SEC filings for a full discussion of the Company's risk factors. The information we will provide today is accurate as of March 31, 2022, and we will not be updating any forward-looking statements to reflect facts or circumstances after this call.

I'll now turn it over to Archie Brown.

[Archie Brown, President and CEO]

Thanks, Scott. Good morning, everyone, and thank you for joining us on today's call. Yesterday afternoon, we announced our financial results for the first quarter. Before I turn the call over to Jamie to discuss those results in greater detail, I'm going to provide a few comments on our performance.

Like others in the industry, our recent quarter was impacted by revenue pressures from rising mortgage rates and the wind-down of PPP. Despite these challenges, the first quarter was in line with our expectations and a good start to what we expect will be a very strong year. For the quarter, we achieved adjusted earnings per share of $0.46, a 1.09% return on average assets and a 15.75% return on average tangible common equity. These results were driven by a provision recapture of $5.8 million, resulting from strong credit quality trends, stable economic conditions and then prudent expense management.

Improvement in the core margin highlighted in the quarter with the margin increasing 12 basis points when excluding PPP and other more volatile loan fees. The margin benefited from the upward shift in rates driving asset yields higher. Given interest rate forecasts in our assets in our balance sheet, we should see additional improvement in our margin during the year. In addition, credit quality trends remain excellent, evidenced by stable classified asset levels, lower net charge-offs and provision recaptures.

We were also pleased with our ability to diligently manage expenses, which were in line with our expectations despite some elevated health care costs. First quarter fee income was lower than we anticipated as rising rates negatively impacted mortgage banking revenue. While foreign exchange declined for the fourth quarter levels, Bannockburn's income can vary from quarter-to-quarter, and we expect it to rebound in coming quarters.

Consumer deposit balances grew modestly as our customers continue to maintain substantial liquidity levels. Overall loan growth was muted in the first quarter as originations were slowed by the peak of Omicron in January, and higher payoffs continued in our commercial lines of business as many borrowers sold their businesses or underlying assets. We're pleased to see growth in all of our business lines with the exception of ICRE and franchise where payoffs were elevated. Loan pipelines are strengthening, and we are optimistic about improved loan growth for the remainder of 2022.

The integration of Summit continues to go as expected. Its first quarter financial performance was in line with our expectations, and the cultural fit has proven to be as we had hoped. Given the impact of acquisition accounting, our projection is that Summit's contributions will be neutral to overall 2022 financial results, and we remain bullish on the future success of this addition to our company.

With that, I'll now turn the call over to Jamie to discuss the first quarter results in more detail. After Jamie's discussion, I'll wrap up with some additional forward-looking commentary. Jamie?

[Jamie Anderson, CFO]

Thank you, Archie. Good morning, everyone. Slides 4, 5 and 6 provide a summary of our first quarter financial results. Our first quarter was solid and was highlighted by strong asset quality, a net interest margin that exceeded expectations and prudent expense management. As Archie mentioned, we believe this quarter lays a strong foundation for what we think will be a very profitable 2022.

Basic net interest margin benefited from the first Fed rate hike increasing 12 basis points during the quarter. Given our asset-sensitive balance sheet, we believe this trend will continue as the Fed increases rates further in 2022. We were particularly pleased on the credit front as classified assets were relatively stable during the period and net charge-offs declined to 10 basis points. These two factors drove $5.8 million of provision recapture during the period.

Fee income was lower than we expected during the period with declines from fourth quarter levels. In particular, mortgage banking revenue declined due to rising rates, which is in line with the broader industry trends. Given the inherent volatility in our foreign exchange business, we remain confident that Bannockburn will rebound in the coming quarters as we have seen in the past.

Noninterest expenses were in line with our expectations as lower incentive compensation offset a significant increase in health care claims and seasonally high payroll taxes during the period. From a capital standpoint, our regulatory ratios remain in excess of both internal and regulatory targets. Due to rising rates, accumulated other comprehensive income declined $142 million, negatively impacting both tangible book value and our tangible common equity ratio. Given the Summit acquisition, we paused our share repurchase program and expect to remain on the sidelines in the near term.

Slide 7 reconciles our GAAP earnings to adjusted earnings, highlighting the items that we believe are important to understanding our quarterly performance. Adjusted net income was $43.6 million or $0.46 per share for the quarter. These adjusted earnings account for $300,000 of Summit-related acquisition costs and $2.5 million of other costs not expected to recur, such as severance and branch consolidation expenses. As depicted on Slide 8, these adjusted earnings equate to a return on average assets of 1.09%, a return on average tangible common equity of 15.8% and an efficiency ratio of 67.7%.

Turning to Slides 9 and 10. Net interest margin declined 6 basis points from the linked quarter to 3.17%. This decline was primarily driven by a decline in loan prepayment and PPP forgiveness fees. The impact on the net interest margin from these changes was partially offset by an increase in asset yields during the period, which was driven by rising interest rates. Asset yields increased during the period following the initial Fed rate hike.

Investment yields increased due to higher reinvestment rates and slower prepayments on mortgage-backed securities. Excluding fees, loan yields also increased slightly during the period, and we expect to realize the full impact from the initial Fed rate hike in the second quarter. Our cost of deposits declined 2 basis points when compared to the fourth quarter. And at this point, we believe we have reached our pricing floor.

Slide 11 details the asset sensitivity of our balance sheet. As you can see, we believe we are well positioned for the expected rate increases as approximately 60% of our loan portfolio will re-price in the short term.

Slide 12 details the betas utilized in our net interest income modeling. And while we don't expect much initial pressure from rising rates, as additional rate increases occur, we expect our deposit beta to be approximately 30%.

Slide 13 illustrates our current loan mix and balance changes compared to the linked quarter. Loan balances decreased slightly during the period primarily due to expected runoff in PPP loans. Excluding the $34 million of PPP forgiveness, loan balances decreased $12 million as declines in ICRE and franchise loans were partially offset by increases in other portfolios.

Slide 15 shows our deposit mix as well as the progression of average deposits from the end of 2021. In total, average deposit balances decrease $101 million during the quarter, driven primarily by a $167 million decline in brokered CDs. We were pleased with the growth in lower cost transaction deposits during the quarter, which included increases of $74 million in interest checking and $48 million in savings accounts.

Slide 16 highlights our noninterest income for the quarter. As I mentioned previously, first quarter fee income fell short of our expectations, primarily in mortgage banking, foreign exchange and derivative fees. Increasing rates and record production in 2020 and 2021 has softened mortgage demand significantly, and we expect industry-wide pressure on this business for the remainder of 2022.

Foreign exchange was also lower than expected during the quarter. However, we fully expect that business line to return to its anticipated run rate in the coming quarters. On a bright note, wealth management continues to produce strong results.

Noninterest expense for the quarter is outlined on Slide 17. Noninterest expenses decline $6.8 million during the period. On an operating basis and excluding Summit, expenses declined compared to the first quarter despite a significant increase in healthcare costs and seasonally high payroll taxes during the period.

Turning now to Slide 18. Our ACL model resulted in a total allowance which includes both funded and unfunded reserves of $137 million and $5.8 million in total provision recapture during the period. This resulted in an ACL that is 1.34% of total loans. The provision recapture was driven by relatively flat classified asset balances, an 11% decline in non-performing assets and a 69% decline in net charge-offs during the period.

Net charge-offs as a percentage of loans decreased to 10 basis points on an annualized basis. Our view on the ACL and provision expense remains unchanged. We believe we acted aggressively when building reserves in response to the pandemic and have been steadily releasing those reserves. We expect further provision recapture and reserve release in the near term with a neutral to slightly positive provision expense in the back half of 2022.

Finally, as shown on Slides 20 and 21, regulatory capital ratios remain in excess of regulatory minimums and internal targets. During the quarter, both tangible book value and the TCE ratio declined. These declines were caused by unrealized losses on the investment portfolio due to rising interest rates. Absent the change in the portfolio, the TCE ratio would have increased 32 basis points during the quarter.

As I previously mentioned, we did not repurchase any shares during the quarter and do not expect any additional share repurchases in the near term. Additionally, we do not anticipate any near-term changes to the common dividend. However, we will continue to evaluate various capital actions as the year progresses.

I'll now turn it back over to Archie for some comments on our outlook going forward. Archie?

[Archie Brown, President and CEO]

Thank you, Jamie. Before we end our prepared remarks, I want to comment on our forward-looking guidance, which can be found on Slide 22. Our near-term forecast for loan growth is strengthening, and we expect balances to grow low to mid-single digits over the near term, excluding PPP and Summit. Securities balances are projected to be consistent with the first quarter ending balances, while deposit balances are expected to remain relatively stable over the near term.

Our asset-sensitive balance sheet positions us very well to benefit from the expected rise in interest rates. A significant portion of our loan portfolio is indexed to short-term rates. And although there are many variables that impact magnitude and timing, we expect our margin to improve from rising rates, especially early in the cycle when deposit rate pressures are muted.

Regarding credit, we expect continued improvement in asset quality trends and additional provision recapture in the near term to less than in recent quarters. The allowance for credit losses is expected to continue to decrease on a percentage basis, but much uncertainty remains regarding the impact of supply chain bottlenecks, pandemic evolution and inflationary pressures on our client base.

We expect fee income to be between $47 million and $49 million in the second quarter with continued growth in Summit leasing revenue, some rebound in capital markets fees and modest seasonal increases in mortgage banking and interchange income. The rate headwinds will continue to put pressure on overall mortgage banking income trends, and we expect some decreases in overdraft income due to updates to our program.

Specific to expenses, we expect to be between $100 million and $102 million, but this could fluctuate with fee income performance. Regarding Summit, our outlook is unchanged, and we expect the acquisition to have a minimal impact on overall 2022 earnings with a slightly negative impact near term from the intangible amortization. We expect the acquisition to provide $400 million in annual originations, which will provide a strong lift to loan growth as the year progresses.

Lastly, our capital ratios remain strong, and we expect to maintain our dividend at current levels. Overall, our first quarter performance has laid a strong foundation for the year, and we believe our asset-centered balance sheet is well positioned for rising rates that are expected over the course of 2022. We made strategic efforts to diversify our product offerings in recent years, and we believe those efforts position us to deliver industry-leading services to our clients and returns our shareholders have come to expect.

With that, we'll now open up the call for questions.

[Operator]

[Operator Instructions] Our first question today comes from the line of Scott Siefers from Piper Sandler. Scott, your line is open.

[Scott Siefers, Piper Sandler]

Let's see, I wanted to start first on fees. Archie, I appreciate the comments towards the end in your guidance commentary. Just hoping for maybe a little more color in helping to bridge the gap between the sort of $41.5 million run rate in the first quarter and then the $47 million to $49 million, again, I feel like directionally, you kind of pointed us where to go with Bannockburn and then some capital markets as well as some other things. But just given the magnitude of the gap, how much should we be anticipating that some of these things do come back here in the near term?

[Jamie Anderson, CFO]

Yes, Scott, it's Jamie. So, a couple of things there. We expect -- so Bannockburn had a lower quarter than what we had anticipated. And they can have some -- a little bit of volatility to their income. So if you look back in the last year, their third quarter was a light quarter and then they had a record fourth quarter, and then it just came back down a little bit here in the first quarter. So, we are expecting that to increase by roughly a couple of million dollars.

And seasonally, even though rates are moving up on the mortgage side, we should see some seasonal lift on the mortgage side just with activity picking up overall. And then, on the -- and then generally, we see a lift in debit card income seasonally as well. We had a low quarter in the first quarter related to swap fee income. We're expecting that as demand comes back and as we get a little more activity there on the loan side for that to pick up and then Summit as well.

So Summit, the amount that hit in fee income for Summit in the first quarter was roughly around $6 million. We're expecting that to be a lift of between $0.5 million to another $1 million. So it's really, I would say, roughly kind of across the board, the biggest contributors, though, being those I just talked about.

[Scott Siefers, Piper Sandler]

All right. That's perfect color. And switching gears just a bit. You talked about low to mid-single-digit loan growth in coming periods. Maybe a little more color and can sort of see the numbers on Slide 13. But in your view, sort of why a slower start to the year than we might have anticipated? And then maybe a thought on what reported loan growth might look like. We've got a couple of moving parts between Summit coming on. PPP is still going off, et cetera.

[Archie Brown, President and CEO]

Yes, Scott, this is Archie. I think the big thing that we saw during the quarter was just a little more elevated payoff activity, especially in our ICRE group, where, in many cases, assets were being sold, a little bit in our commercial banking group. We saw companies being sold. And then in franchise, we moved out one large credit that concerned us kind of a hangover from the pandemic.

And we saw some a few loans that I think, paid off. We just weren't willing to agree on the terms, in some cases, releasing guarantees or rates that we thought were just too low for the risk in that business. So, we saw some pay downs in that business. So that probably brought down some of the growth we were expecting in the quarter.

And we still see some potential elevated payoff activity in, I would say, ICRE and maybe a little bit of franchise in the near term, which is why we maybe downshifted to say low to mid-single-digit growth, excluding Summit. When you take Summit, including Summit in the loan growth picture, I think you're talking more high single digits, maybe more than that, say, 7% to 8% kind of range, including Summit.

[Operator]

Our next question comes from Daniel Tamayo from Raymond James. Daniel, your line is open.

[Daniel Tamayo, Raymond James]

Maybe we just start on the NII and NIM expectations. Obviously, you guys are very asset sensitive and expecting that to improve nicely in the year. But you talked about deposit beta assumptions, but I just kind of want to make sure that we're still on the same page in terms of impacts from rate hikes, maybe how many you guys are expecting or budgeting for during the year and that sort of thing?

[Jamie Anderson, CFO]

Yes. I mean, Daniel, it's Jamie. So in our internal forecast, we have Fed funds pending the year around 2.25. So -- but regardless of that, I mean, when you look at our -- the makeup of the loan portfolio, we have right around 60% of the loan book that's going to reprice and the vast majority of that reprice is in a very short period of time within three months of a rate hike. So, we get a pretty good pop in net interest income as those rate hikes hit. So -- and then on the deposit side, the first rate hike, we really did not see hardly any pressure on the deposit side other than maybe in some kind of a case-by-case basis on some public funds and whatnot.

But -- and I think if we get a 50 basis point move in May, we won't hit that full beta that was -- that we have in the deck in that 25%, 30% range. It's going to -- it will kind of slowly ramp up to that as we start to get further rate hikes. So, I would think that initial next hike, let's call it 50 basis points if we get it in early May, well, we won't see that full impact on the deposit side.

[Daniel Tamayo, Raymond James]

So that still kind of an 8 basis point impact on the net interest margin early and then maybe coming down to 5 to 6 basis points overtime [indiscernible] that's probably think about.

[Jamie Anderson, CFO]

Daniel, we can't hear you. I don't know if it's something on your end. Maybe try to repeat that question.

[Daniel Tamayo, Raymond James]

I apologize. Can you hear me better now?

[Jamie Anderson, CFO]

Yes. Perfect now. Thanks.

[Daniel Tamayo, Raymond James]

Okay. Sorry. Yes. So I just said, at the end of the day, we're still kind of the -- around 8 basis points for the initial hikes and then trending downward towards 5 to 6 basis points as we get it more.

[Jamie Anderson, CFO]

Correct. Yes.

[Daniel Tamayo, Raymond James]

Okay. Great. And then how are you thinking about that you've got significant excess liquidity still? How are you thinking about the deployment of that excess liquidity and how that impacts, is impacted by any kind of assumptions you're making for deposit flows?

[Jamie Anderson, CFO]

Well, so on the liquidity side, I mean, we essentially have ramped up the overall balance in the investment portfolio. So, that will -- the investment portfolio and the deposit side, I mean, those are going to kind of play off of each other.

So if we start to see deposit outflows, then we're just going to adjust the investment portfolio to mirror that. But at this point, our plan is to keep the investment portfolio relatively flat but obviously monitoring deposit balances and shifts in deposit mix as well, and we will adjust the portfolio accordingly.

And we have good cash flow coming off of the investment portfolio. We have -- it's right around $1 billion over the next 12 months. So again, if we start to see -- and we have good capacity for borrowing, short-term borrowings on the balance sheet side. So, if we start to see deposit runoff more than what we're expecting, we can react accordingly.

[Operator]

Our next question comes from Terry McEvoy from Stephens. Terry, your line is open.

[Terry McEvoy, Stephens]

Maybe if you could just walk me through the first quarter impact of Summit. You gave us the fees, you gave us the expenses. And I'm just curious, the NII contribution. And maybe what does the size of the, I guess, the loan portfolio need to be for that to breakeven in order for us to kind of model that out? And also, since this is the first quarter we're seeing leasing business income, is there -- do you expect much volatility on a quarterly basis as it relates to fees?

[Jamie Anderson, CFO]

Yes. Good question. So if you look at the first quarter, again, I think we disclosed what we had on the noninterest income side and the expense side. If you look at just the spread income that it created, when we brought it over their balance sheet and their on-balance sheet operating leases or, I'm sorry, finance leases were relatively small. So that contribution in the first quarter in terms of net interest income was relatively small, about $800,000, $900,000. And so as we ramp the balance sheet up, that obviously is going to -- that's obviously going to increase.

And so our -- at the end of March, we had finance leases of roughly $80 million operating, which obviously are down in other assets of about 70. And so, we see that we're still expecting about $400 million of total originations for the year for that business with about $300 million of that and finance leases and $100 million in operating leases. And then they still -- based on credit and/or a few other factors, they will still sell out 30% to 35% of their production.

So, they're going to have roughly sales of, call it, $140 million, and then the rest will go on the balance sheet in one form or the other in terms of finance or operating leases. And then in terms, Terry, of the leasing business income, I mean that is mostly driven by the sales of production and residual income that they get on the backside. So, we expect that to actually -- there could be some volatility to it, but the overall base is going to increase as we go throughout the year.

[Terry McEvoy, Stephens]

Again, maybe just as a follow-up, the loan growth guidance, is that annualized? And then if it isn't, I guess, a follow-up question, I was having a tough time kind of funding that loan growth given the actions with the securities and just the balance sheet mix. Is it going to be funded with cash flow from the securities portfolio assuming deposits are stable or maybe drift lower?

[Jamie Anderson, CFO]

Correct. Yes. Yes, we would fund that either from just the short-term borrowings, overnight borrowings and whatnot, and then and/or...

[Archie Brown, President and CEO]

This annualized growth when we talk about low mid-single digits or my answer to Scott, 7% to 8%, that's annualized growth.

[Operator]

Next of the questions, we have Chris McGratty from KBW. Chris, your line is open.

[Chris McGratty, KBW]

Jamie, just a question on credit. Obviously, a lot of concerns in the economy right now. I'm sure you've done some scrubbing in the portfolio. What's the -- if we're going to get a pressure point this year or next year, where is it in your book?

[Bill Harrod, Chief Credit Officer]

Yes, this is Bill Harrod. A couple of areas we're focused on right now. In the C&I book, obviously, we're thinking about the supply chain inflation, doing some deep dives into our impacted C&I space. And then also we're getting ahead of the office portfolio. As leases come up for expiry, we're getting ahead of that. We're doing a deep dive. We do expect some changes in the office space world in post-COVID, in post-COVID life. So, those are two main areas that we're focused on right now.

[Chris McGratty, KBW]

Okay. Great. And then I may have missed this. Can you remind us the percent of loans that we price within three months? I know, Jamie, you said a lot of the variable rate does, but just the specifics?

[Jamie Anderson, CFO]

Yes. I mean we have -- Chris, we have 60% that reprice within a year, and the majority of those are within three months.

[Operator]

[Operator Instructions] Our next question is from Jon Arfstrom from RBC. Jon, please go ahead.

[Jon Arfstrom, RBC]

Just on Slide 10 on the securities portfolio, I hate to keep asking about it, Jamie, but you guys are talking about another 200 basis points up in short rates through the end of the year. Just curious, how you're approaching reinvesting the cash on the securities portfolio, kind of what are you buying, how you're trying to protect yourself? Obviously, we saw the AOCI mark, but just philosophically talk about what you're doing and what you're buying.

[Jamie Anderson, CFO]

Yes. I mean, roughly still -- I mean, I would say, similar to the makeup of the portfolio, as it is now with a mix between agency mortgage-backs, municipals and then some other asset classes. But I mean the -- our philosophy is probably one that we're going to look at the securities portfolio, I guess, as a function of -- or terms of the balance as well as a function of the amount of loan growth that we're seeing and then the -- any runoff of the -- on the deposit side. So, we're going to stay, I would say, relatively flat on the securities portfolio and potentially trending down as we see -- hopefully, as we see loan growth improve throughout the year. So -- and we'll stay relatively -- again, relatively defensive in terms of -- on the reinvestment side.

[Jon Arfstrom, RBC]

Okay, I got it. Archie, I may have missed this, but can you remind us of the updates to your overdraft program and just kind of walk us through the impact of that.

[Archie Brown, President and CEO]

Yes, Jon, we've been making, I think, just kind of continual tweaks over a period of time. If you go back probably pre-pandemic, we were probably annually around $22 million in revenue. I think that's probably more in the -- this year, probably more in the at least -- our budget was probably around $15 million for this year. But with all the movement we've seen from the larger competitors and they're all in our markets, we're being making some further changes. Probably midyear that it will have a little bit of effect, I think, in Q2, probably a little more of an effect in the back half.

But there are things like reducing the fee, adding -- we already have a cushion before we charge EBIT, raising that cushion just in some of the other peripheral fees. It's probably an array of things that are happening. But it will, I think, have a little bit more of an effect in the back half of the year and then the full year effect next year. So, if you said that $22 million pre-pandemic, what does that get to, is it going to be more in the 35%, 40% of that for next year, that's probably where we end up when it's all said and done. But second quarter, just a little bit of -- maybe a little bit of a drop-down from where we are.

[Jon Arfstrom, RBC]

Okay. Okay. Good. And then just bigger picture on the environment. You've had a couple of questions on loan growth seeming a little bit slower than peers, but I understand what you're carving out. And I guess the question is, are you more optimistic on growth than last quarter. I mean, obviously, we get the math on the margin, so that's pretty positive. And we understand what you're saying on the fees, and that's better. But are you more optimistic on the overall lending environment for the next several quarters?

[Archie Brown, President and CEO]

I think I am, Jon. Again, probably the main thing that was different was just some of the elevated payoffs we described I'm a little -- probably a little more optimistic than early in the year. And I mean, there's still a lot of crazy things going on which I think created a lot of uncertainty. But -- we've got teams that are focused on growing loans. We're seeing a nice rebound on the consumer side. We didn't talk about that much this morning. But if you look at what happened in the first quarter, and then we certainly think that's happening in the second quarter.

That had been a drain in the last few years, and it's not going to be a game changer of course. But if that plugs a hole rather than just going the other way, that gives us a level of support. So, we have that support along with, I think, improved commercial growth, improved growth coming out of our finance company and out of Summit. All those things together make me feel like it's going to be a better year and get stronger throughout the year.

[Operator]

At this time, we have no further questions. I'll hand back to Archie Brown to conclude today's conference call.

[Archie Brown, President and CEO]

Thank you, Emily. Thanks, everybody, for joining us today and hearing more about our first quarter results. We look forward to talking to you again next quarter. Have a great Friday and a great weekend. Bye now.

[Operator]

Thank you, everyone, for joining us today. This concludes our call. You may now disconnect your lines.