NBT Bancorp Inc

NASDAQ:NBTB

Earnings Call Transcript 2022-Q4

[Operator]

Good day, everyone. Welcome to the conference call covering NBT Bancorp's Fourth Quarter and Full Year 2022 Financial Results. This call is being recorded and made accessible to the public in accordance with the SEC's Regulation FD. Corresponding presentation slides can be found on the company's website at nbtbancorp.com.

Before the call begins, NBT's management would like to remind listeners that as noted on Slide 2, today's presentation may contain forward-looking statements as defined by the Securities and Exchange Commission. Actual results may differ from those projected.

In addition, certain non-GAAP measures will be discussed. Reconciliations for these numbers are contained within the appendix of today's presentation.

At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Instructions will follow at that time. As a reminder, this call is being recorded.

And I would now like to turn the conference over to NBT Bancorp President and CEO, John H. Watt, Jr. for his opening remarks. Mr. Watt, please begin.

[John H. Watt]

Thank you, Chris, and good morning, and thank you for joining our earnings call covering NBT Bancorp's fourth quarter and full year 2022 results.

Joining me today are NBC's Chief Financial Officer, Scott Kingsley; our Chief Accounting Officer, Annette Burns; and our Treasurer, Joe Ondesko.

We achieved superior operating results for the full year 2022, defined by strong loan growth in connection with our strategy to build scale and create higher operating leverage. We're very pleased to report operating earnings per share of $0.86 for the quarter and $3.55 for the year, excluding acquisition-related expenses and securities losses. Return on average assets was approximately 1.3% with return on tangible common equity for the year at 16.9%.

In a year underscored by volatile interest rate movements and unfavorable equity and fixed income market returns, we're pleased that our operating results drove total shareholder returns of over 15% in 2022.

Also, in line with our strategies around scale building, we were very pleased to announce an agreement to acquire Salisbury Bancorp in December. This all-stock transaction is expected to close in the second quarter of 2023, pending the required regulatory and Salisbury shareholder approvals.

Loan growth was 10.2%, with our commercial and residential solar lending businesses finishing strong in the fourth quarter. Credit quality remained strong throughout the year with nonperforming loans down 4% in the fourth quarter. In 2022, our customers continued to embrace digital services with a 94% cumulative increase in consumer digital adoption since the start of 2020.

Across our markets, our commercial and business banking customers are active and their sentiment is generally optimistic. Projects funded by the 2021 infrastructure bill are moving ahead in upstate New York and our customers are bidding and winning their fair share: the planning work associated with the Micron chip fab plant build out near Syracuse has begun; and in Utica, New York, Wolfspeed recently announced a new large chip fabrication contract with Mercedes. NBT is preparing on many fronts to support our customers and communities across the Upstate New York chip corridor over the next five years.

Yesterday, our Board approved a $0.30 dividend payable on March 15. In 2022, it's notable that we marked 10 consecutive years of annual dividend increases and continued our commitment to providing consistent and favorable long-term returns for our shareholders.

So, I'll conclude my remarks by emphasizing that it was the talented and dedicated team at NBT who made our 2022 results possible. We could not be more optimistic about how well that team has positioned us to enter 2023.

With that said, I'll turn the meeting over to Scott, who will walk you through the detail of our last quarter and the prior year. Scott, I'll turn it over to you.

[Scott Kingsley, Chief Financial Officer]

Thank you, John, and good morning, everyone.

Turning to the results overview page of our earnings presentation, our fourth quarter earnings per share were $0.84, and $0.86 per share excluding the $0.02 per share of acquisition expenses we incurred in the quarter related to our previously announced combination with Salisbury Bancorp. Fourth quarter operating results were consistent with the $0.86 a share reported in the fourth quarter of 2021 and $0.04 a share lower than the linked third quarter of 2022. These results were achieved despite a $7.5 million decline in PPP income recognition compared to the fourth quarter of last year or $0.13 a share.

The improvement in net interest income over the two comparative quarters was the result of solid organic loan growth, incremental deployment of a portion of our excess liquidity into investment securities in the first half of the year and higher asset yields from the continued increases in the Federal Reserve's targeted Fed funds rate.

We recorded a loan loss provision expense of $7.7 million in the fourth quarter compared to $3.1 million expense in the fourth quarter of 2021 or an $0.08 per share difference. Fourth quarter 2022's loan loss provision was also $3.2 million or $0.06 a share higher than the $4.5 million provision recorded in the linked third quarter.

Net charge-offs in the fourth quarter were $3.7 million or 18 basis points of loans compared to 22 basis points of loans in the fourth quarter of 2021 and 7 basis points of net charge-offs in the linked third quarter. Our reserve coverage increased slightly to 1.24% of loans from 1.22% at the end of September, which provided for loan growth.

The next page shows trends in outstanding loans. Total loans were up $245 million for the quarter and included growth in both our consumer and commercial portfolios. Loan yields were up 38 basis points from the third quarter of 2022, reflective of higher yields on our variable rate portfolios as well as new higher volume rates. Total loan portfolio of $8.15 billion remains very well diversified and is evenly balanced between consumer and commercial outstanding.

Total deposits were down $423 million from the end of the third quarter and ended the year $739 million below the end of 2021 or 7.2% lower. The decrease in deposits was primarily concentrated in certain larger, more rate-sensitive accounts. The effects of tighter monetary policy, inflation and higher rate alternatives, including a laddered treasury security strategy deployed by our wealth management group for our own customers, continue to weigh on balances. Even though deposit balances declined from 2021, year-end 2022 deposits are still 25% higher than the pre-pandemic end of 2019.

During the fourth quarter, we shifted from an excess liquidity position to a net overnight borrowing position. Our quarterly cost of total deposits increased to 17 basis points compared to 9 basis points in the linked third quarter. Interest-bearing deposits moved up from 14 basis points in the third quarter to 27 basis points in the fourth quarter. And our total cost of funds increased 19 basis points from 18 basis points in the third quarter to 37 basis points in the fourth quarter.

The next slide looks at detailed changes in our net interest income and margin. Net interest income increased $14.7 million as compared to the fourth quarter of last year and was up $5.4 million from the third quarter of 2022, reflective of higher yield on earning assets. Reported fourth quarter net interest margin was 3.68%, up 17 basis points from the linked third quarter and 60 basis points higher than the fourth quarter of 2021.

With interest rates expected to continue to modestly rise in the near-term, the yields on our variable rate earning assets are expected to continue to move higher over the next few quarters. We also expect to reinvest cash flows from our interest-earning assets at levels above our current blended portfolio yields. Although we believe our deposit funding profile remains a core strength, we would expect increased levels of deposit beta in 2023. Going forward, retaining and growing deposits will continue to be a critical element of our ability to sustain the significant improvements we achieved in net interest margin during 2022.

The trends in noninterest income are summarized on the next page. Excluding security gains and losses, our fee income was down 17% from [Technical Difficulty] $3 million in the linked third quarter. Our retirement plan administration and wealth management businesses revenue decreased a combined $1.2 million, reflective of challenging market conditions as well as certain seasonally higher revenues in the third quarter. Similarly, fourth quarter revenues in our insurance agency are typically lower than the first three quarters of the year and were $450,000 below the linked third quarter.

In 2022, on a full year basis, the company's retirement plan administration business recognized $2.5 million of service revenues related to statutory plan document restatement requirements that generally recur on a six-year cycle.

Card services income decreased $3.9 million from the fourth quarter of 2021, driven by the bank being subject to the provisions of the Durbin Amendment to the Dodd-Frank Act beginning in the third quarter of 2022, which caps our per transaction compensatory opportunity for debit card interchange activities. Lower levels of card utilization and changes in transactional mix resulted in lower card services income in the fourth quarter compared to the linked third quarter. In addition, we continue to experience comparatively lower commercial lending fee opportunities in this rising interest rate environment.

Turning now to noninterest expense. Our total operating expenses were $79.5 million for the quarter, which was $4.4 million or 5.9% above the fourth quarter of 2021 and $2.8 million or 3.7% higher than the linked third quarter and included $1 million of merger-related expenses incurred during the quarter. Salaries and employee benefit costs of $47.2 million were 2.3% lower than the linked third quarter, reflective of one less payroll day in the quarter and more favorable experience in certain of our benefit plans.

The quarter included some higher seasonal costs, including some external services for several tactical and strategic initiatives. We'd expect core operating expenses to drift modestly upward over the next several quarters as we continue our efforts to fill open positions in support of our customer engagement and growth objectives. We would also anticipate somewhat higher than historical levels of merit-based compensation increases in early 2023, probably 4% to 5%. In addition to investing in our people, we expect to continue to invest in technology-related applications and tools in order to advance our customer-facing and processing infrastructure.

On the next slide, we provide an overview of key asset quality metrics. A walk forward of our loan loss reserve changes is also available at the appendix of the presentation. As I previously mentioned, net charge-offs were 18 basis points in the fourth quarter of 2022 compared to 7 basis points in the prior quarter. In the selected financial data summary provided with the earnings release, we have summarized the components of our quarterly net charge-offs by line of business. Consistent with previous quarters, fourth quarter net charge-offs were concentrated in our other unsecured consumer portfolio, which are in a planned [run-off] (ph) status.

Nonperforming loans declined again this quarter. We are continuing to benefit from our conservative underwriting and have continued to experience higher than historical levels of recoveries.

As I wrap up my prepared remarks, some closing thoughts. We started 2022 on strong footing and are very pleased with the [Technical Difficulty] results we achieved. Improving net interest income, additive results from our diversified fee income line and favorable credit quality outcomes have more than offset higher levels of noninterest expense, which has allowed for productive gains in operating leverage. Our capital accumulation results over the past several quarters continue to put us in an enviable position as we consider growth opportunities for 2023 and beyond.

With that, we're happy to answer any questions you may have at this time. Chris?

[Operator]

Thank you, sir. [Operator Instructions] And our first question will come from Steve Moss of Raymond James. Your line is open.

[Steve Moss, Raymond James]

Hi, good morning.

[Scott Kingsley, Chief Financial Officer]

Good morning, Steve.

[John H. Watt]

Good morning, Steve.

[Steve Moss, Raymond James]

Maybe just start off with loan growth here. You had good quarter for loan growth. And just kind of curious as to how the pipeline is now versus before. I hear you guys in terms of the ongoing investment in Upstate New York supporting business activity, but commercial growth was -- continues to remain strong. Just curious as to expectations going forward.

[John H. Watt]

Appreciate the question. First of all, with respect to economic development in Upstate New York, that's a long-term growth opportunity for us. And as I said before, NBT is best when we are playing that long game. Those pipelines are going to build over periods of years, not immediately. Although, under the infrastructure funding that's been released recently, several of our customers have been quite successful in receiving awards to be involved in large infrastructure projects.

With respect to the commercial pipeline itself across the seven states, it's healthy. Clearly, we did a lot in the fourth quarter to take a pending pipeline and convert it to close, and there's refilling of the bucket going on. But we feel pretty good about the opportunities that we're given to look at and the diversity of those opportunities.

On the consumer side, there's no doubt that the residential mortgage business has slowed down. So, loan growth there is more muted and will be in this rate environment for a while. Although, on the back half of the year, we'll see whether or not the housing market shifts again. We're watching that very closely.

We mentioned our growth in the Sungage lending program, very strong third and fourth quarter. I think Scott also will talk to that subject. We expect that to level off now going into this year as our partner Sungage diversifies its funding sources and it's actively engaged in that. The beauty of that is we'll retain the servicing in all likelihood and there'll be other investors to hold the asset. So, generally speaking, optimistic with those exceptions.

[Steve Moss, Raymond James]

Okay. That's helpful. And then, maybe just on loan pricing, what's the rate on new loans coming on these days, and any color you can give there?

[Scott Kingsley, Chief Financial Officer]

Sure. So, sort of holistically across the board, Steve, new loan production is clearly above 6% in all of our portfolios. From a pricing standpoint, I think that discipline in the market around us has been pretty fair as people have started to experience some increase in some of their funding costs or have actually started to experience a little bit less excess liquidity on their balance sheet. I think some of that discipline is even a little bit more pronounced, which is what we're seeing in the market today.

So, important for us going forward from a pricing standpoint, price to the forward curve, I think as most people have probably noted, 2022 probably didn't force that until at least the midyear point of the year or maybe even later because of the excess liquidity that exists on most banks' balance sheet at the time. But I think generally, we're not getting a lot of pushback relative to our pricing proposals that are out there today. And they are certainly at levels of yields that are meaningfully above the blended portfolio that's on the books today.

[Steve Moss, Raymond James]

Okay. That's helpful. And then, maybe just one last one for me. If we get 25 basis points in February and 25 basis points in March, just kind of curious how you guys are thinking about the margin. I mean, I hear you there's some uptick in deposit costs, but just curious how to think about that in the next couple of quarters.

[Scott Kingsley, Chief Financial Officer]

Yes. For us, I think we probably would have told you a quarter ago that we would have thought that, that would have allowed for a little bit of the tick up in net interest margin expansion possibilities. I think with the drop in funding levels in the fourth quarter, probably a little bit more cautious about that than we were in September. So, yes, I think we'll get improvement relative to variable rate assets with those two moves, and we're anticipating that. The question is can we still find the logical sources.

I think as, probably, we pointed out before, I mean our deposit beta remains very low. We have a very granular deposit base. But to the extent that we've had drops in balances, not drops in relationships, but drops in balances, those have been primarily focused on our largest 150 customers. And I think as, again, most people realize short-term treasury yield at the front end of the curve are in the high 4%-s today. And people with the high treasury acumen, some we're helping and others have got there without us, have just found other opportunities in a higher yielding.

So, Steve, to come back around to your question, I think we'd like to believe that NIM stability is a possibility for the first half of the year, but I think that will be incumbent upon us holding our funding sources in place.

[Steve Moss, Raymond James]

Okay, great. Thank you very much for all the color.

[Scott Kingsley, Chief Financial Officer]

Appreciate it, Steve. Thanks for the questions.

[John H. Watt]

Thanks, Steve.

[Operator]

Thank you. [Operator Instructions] And our next question will come from the line of Alex Twerdahl of Piper Sandler & Company. Your line is open.

[Alex Twerdahl, Piper Sandler & Company]

Hey, good morning, guys.

[Scott Kingsley, Chief Financial Officer]

Hey, good morning, Alex.

[John H. Watt]

Good morning, Alex.

[Alex Twerdahl, Piper Sandler & Company]

First off, just kind of going back to deposits, I was just curious, you sort of talked about what happened this quarter, but do you have any sort of line of sight on sort of expectations for what deposit flows might be over the next couple of months?

[Scott Kingsley, Chief Financial Officer]

So, good question. So, what we have out there today, what we're seeing is that with other opportunities relative for higher yield, there's a little bit of pressure on, again, higher balance accounts, Alex. The general broad cross section of our deposit base has not been that much -- has not been that influenced by that. Again, level of granularity in our deposit base is the huge advantage.

I think relative to where we think competition is going, remembering that everybody has an investment portfolio which is probably a little bit higher than it was pre-pandemic. So, cash flows off the investment portfolio will be important sources of net liquidity not only for us, but probably for everybody. But today, one can't stimulate that because one is probably in a loss position relative to the front end of some of those. So, with that in mind, I think there's a little bit more competition even in our markets, which have historically been very stable for incremental deposit dollars. So, I think that's how we're sort of framing that, Alex.

Typically, the first quarter for us is a net inflow quarter on the municipal deposit side. And I think we think that as much as they have some other choices as well, we'll still benefit from that.

[Alex Twerdahl, Piper Sandler & Company]

Okay. That's what I was looking for. Are you able to quantify or give us a little bit more color on sort of the frothier -- some of the deposits you saw this quarter that you kind of alluded to like sort of a percentage of overall deposits that might be in that category, where it was last quarter, where it is this quarter, and sort of what might still be considered "at risk"?

[Scott Kingsley, Chief Financial Officer]

Well, [indiscernible] getting this right, Alex. Deposits that -- higher balance deposits that left the balance sheet typically found a wealth management or a short-term treasury solution that had yields in the 4% to 4.5% range. And again, something like $600 million of our $730 million decline in balances for the year related to customers in our top 150 in terms of outstanding deposit balances. So, an enormous concentration in the small group of accounts in fairness.

Other than that, Alex, I don't know if there's anything else. If your question was sort of geared toward what are other people doing in the market for offerings, I think, we're certainly seeing some near-term or some mid-term offerings, whether they be CDs or just high-yield money markets that are approaching 4%. But I think they typically have some other requirements attached to them relative to achieving those yields.

[Alex Twerdahl, Piper Sandler & Company]

Got it. And then, just a point of clarification on the expense or on the fees, the $2.5 million that you alluded to that's on a six-year cycle, is that something that we're going to see fee go down by $2.5 million in 2023 and then come back in 2028? Or how do we -- can you just maybe explain that a little bit better?

[Scott Kingsley, Chief Financial Officer]

Yes, sure. So, there are statutory requirements either within the premise of [indiscernible] or other benefit plan requirements that foretake -- documents to be refreshed on a recurring typically a five to six year cycle. So, you'd be exactly right. We had $2.5 million in 2022 that we don't think recurs in 2023. And depending on the statutory changes, requirements to plan legal requirements, is that a 2027 or 2028 event? Probably most likely, be more important for that line of business for us. The run rate of the fourth quarter is probably more indicative of where we'd expect 2023 to start before any organic growth opportunities that we would be able to capitalize on.

[Alex Twerdahl, Piper Sandler & Company]

Okay. So, the $2.5 million was kind of earlier in 2022 and 2023, the $10.7 million, that's kind of the starting point for the retirement plan administration fee line?

[Scott Kingsley, Chief Financial Officer]

Yes, that's a fair conclusion, Alex. Absolutely much more concentrated in the first three quarters. I think we sort of finished up that program early in October.

[Alex Twerdahl, Piper Sandler & Company]

Okay. And then, just a final question for me. I think I saw in the presentation that commercial lines of credit utilization rates have gone down a little bit into the end of the year. I'm just curious, is that a function of customers paying down those lines, or is it a function of increased lines available that just haven't been drawn out yet?

[John H. Watt]

Well, I think it's a function of couple of factors. Clearly, smart customers with excess liquidity, they're using some of that excess liquidity to pay down their debt. And I think also there are several large unfunded lines of credit in that portfolio that are accommodations to draw customer relationships that have many other components to them and they remain unfunded and are likely to stay unfunded. So, it's kind of a mixed bag there. And I think going forward here, as excess liquidity moves out of the system, we're likely to see incremental borrowing there that we didn't see in 2022.

[Alex Twerdahl, Piper Sandler & Company]

Okay. That's helpful. Thanks for taking my questions.

[Scott Kingsley, Chief Financial Officer]

Appreciate, Alex.

[John H. Watt]

Thanks, Alex.

[Operator]

Thank you. [Operator Instructions] Next question will come from Chris O'Connell of KBW. Your line is open.

[Chris O'Connell, KBW]

Hey, good morning.

[John H. Watt]

Good morning, Chris.

[Chris O'Connell, KBW]

Just following up on the deposit flows question and having some of the investment portfolio cash flows helping out with loan funding there, can you guys give us the either monthly or quarterly cash flows that are coming off the investment portfolio?

[Scott Kingsley, Chief Financial Officer]

Sure. Chris, the large piece of our investment portfolio is mortgage-backed securities. And so, those cash flow got slowed down a little bit since rates started to rise. But I still think it's safe to think about $15 million to $17 million a month of cash flows off the portfolio. And that's given where current rates are. Maybe that accelerates again in the second half of the year, but...

[Chris O'Connell, KBW]

Okay, got it. And I guess along those lines, any chance you could quantify some of the commentary around the deposit betas, which obviously have held in extremely well so far, but you guys expecting to kind of increase on a go-forward basis just relative to either last cycle or, I guess, to peers for this cycle?

[Scott Kingsley, Chief Financial Officer]

Yes. So, Chris, I'll kind of frame it like this. Deposit costs were higher in December than they were in October, and they'll be higher in January than they were in December. And I think generally that marching up effects will happen throughout the quarter. Certainly, would not be surprised if deposit costs were up 12 basis points to 15 basis points in the quarter. But the trend line would suggest that, that's going to be necessary to hold balances.

It's important for us to retain some of those balances, really important for us to retain the operating side of those relationships. Excess liquidity can come and go from the balance sheet, but sustaining the operating accounts is always our first objective in all those cases. So, this is kind of how we're thinking about it.

The alternative for us -- and again, we're 92% deposits funded and 8% borrowing funded at the end of the year, and that's the high mark for the last two years. So, it's important to know that we have an apparatus for deposit gathering, and we're pretty good at it and historically have achieved good growth rate. If we get back to more of a normalized cycle, I think we would suspect that we're capable of growing deposits in any rate environment.

Will there be a little bit more pressure now with short-term yields? Yes, maybe a little bit more. But I think that's something that reconciles itself after you get to stability of rate change.

[Chris O'Connell, KBW]

Okay, great. That's helpful. And in -- on the insurances, financial services line, I believe there's like a little bit of seasonality between third and the fourth quarter versus fourth and the first quarter of the years. Can you just remind us of what that seasonality is, or what the expectations for that line is going into the first quarter?

[Scott Kingsley, Chief Financial Officer]

Yes, absolutely. And, Chris, actually thanks for asking the question, because there is -- it sounds good at least once a year to remind people about some of the seasonality. So, as it relates to insurance revenue specifically, the fourth quarter is normally our weakest quarter. The first and the third quarter are stronger, and I think that's really centered around effective dates of the type of insurance that we originated in our agency. Whether it's commercial insurance, property casualty on the retail side or benefits-related stuff, it's not unusual for people to make changes to their plan or have renewal dates that tend to be January 1, July 1 centric in each of those cases.

So, again, just back to your question around seasonality, we normally see $0.01 to $0.02 improvement in insurance and wealth management combined in our first fiscal quarter compared to the linked fourth quarter. However, it's not unusual for us to incur another $0.01 per share of costs on the utilities and maintenance side in the winter just relative to the geography that we live in.

And quite frankly, I think, most people remember this that we typically incur $0.03 to $0.04 a share in the first quarter associated with elevated payroll tax obligation and some equity compensation that just tend to be front loaded. So, past that from a seasonality standpoint, not anything that's substantial or that sticks out for us. I will make a comment a little bit quirky, but 2023 has 65 payroll days in each of the four quarters, which is -- it's highly unusual, normally there's a one or two day fluctuation that goes along with that.

So, I think in terms of the stability of some of our operating costs should probably be something that's a little bit easier to model next year.

[Chris O'Connell, KBW]

Okay, great. And then, lastly, I mean credit held in super well so far. There doesn't seem to be a ton of movement in the buckets for you guys this quarter. But generally, can you just give us an outlook on what you guys are seeing in your markets in any kind of areas or cause of concern in either the commercial or the residential portfolios as you look out into 2023?

[John H. Watt]

I'll take that one. Thank you. Last week, we completed a comprehensive review of both our commercial and consumer books from a credit risk management perspective. We did that with our Board. And the year ended at a place that we've never seen in the history of this company in terms of the quality of our credit portfolio.

With that said, I would expect as we head into a more normalized environment that there'll be a reversion towards pre-pandemic 2019 levels over time, certainly not immediately, but over time, and we'll see that initially in the consumer portfolios. We don't see it now, but it'll come.

Commercial portfolio, very strong. Business banking portfolio, very strong. I don't think there's a nonperforming loan in excess of $1 million in the total credit book and the sustainability of that will probably revert back to a more normalized nonperforming level as well over a longer period of time.

So, we feel good about it now. We don't see cracks. I know others talk about certain segments of the CRE product line, but we're not feeling that now and we feel pretty good about the loan deposit -- I'm sorry, the LTVs in each one of those asset classes in CRE. So, pretty stable there.

[Scott Kingsley, Chief Financial Officer]

Let me add to that real quick that our philosophy has been that we will provide a provision for net charge-offs and we will provide a provision for loan growth. And sometimes that loan growth is in different segments of our portfolio and that has a higher coverage level in certain portfolios versus others.

But I think important to -- the takeaway here is we have not wavered in that at all. So, coverage ratios of 1.24%, I think, you'll find are probably slightly above our peer group. And we think that's appropriate and judicious certainly given the dynamic of the economic conditions that we expect to go forward with.

[Chris O'Connell, KBW]

Got it. I appreciate the color. Thanks for taking my questions.

[Scott Kingsley, Chief Financial Officer]

Thank you, Chris.

[John H. Watt]

Thanks, Chris.

[Operator]

Thank you. [Operator Instructions] Our next question will come from the line of Matthew Breese of Stephens Inc. Your line is open.

[Matthew Breese, Stephens Inc.]

Hi, good morning.

[John H. Watt]

Hi, Matt.

[Scott Kingsley, Chief Financial Officer]

Good morning, Matt.

[Matthew Breese, Stephens Inc.]

I was hoping you could break out the crystal ball on deposits again. I have a follow-up. I guess, I was wondering do you think the overall mix of noninterest-bearing is at risk here? And could we go back to levels we saw pre-COVID or even prior? I mean, just given -- I mean, Scott, you talked a little bit about the granularity of the book. Assuming that continues to be a structural advantage, how granular is it? And is it continually at risk from mobile banking offers that we see every day north of 3% or 4%?

[Scott Kingsley, Chief Financial Officer]

So, I would frame it this way, Matt. It's a really good question. And by the way, our crystal ball is not that clear this morning. But at the same point, I guess what I would say is that we have seen a little bit of migration away from pure noninterest DDA into other alternatives, but it has been typically our customers with a much higher treasury acumen relative to larger businesses with full-time professionals managing their net cash flows. So, we've seen a little bit of that.

I think in the lion's share of the broad cross section of our business, a lot of our customers, whether they're retail or small business, just don't have that much excess liquidity where they think that going through the machinations of moving certain of that amounts off into alternative instruments even in the near term, is that prolific.

It's just -- for them, if you've got excess balances of $25,000 or $50,000, what is the net differential? We have some products in our deposit portfolio to address moving people up over time, peer-based products. So, I think those will be affected, they've historically been affected. But I think what you're even seeing is that our customers still have higher than historic levels of pure checking balances, but they're becoming a little bit better at moving those off into money market type products even on our own deposit portfolio.

So, Matt, I think I'd come back around to say, I think on a peer comparison, our granularity of our retail and small business portfolio will be an advantage on the deposit side. I think like everybody, managing some of the large customer expectations and, in fairness, reminding some of those large customers how low their borrowing rates still are will be something that will continue to be a challenge for us and a task for us. But truly, that's about managing relationships and I think we'll be really effective at that over time.

[Matthew Breese, Stephens Inc.]

Got it. Okay. And then, just acknowledging that the loan to deposit ratio ticked up still well below 100%. But at 86%, any limitations there you'd put on yourself, or any ceiling you'd like us to keep in mind? And at what point does it start to impact your loan growth outlook?

[John H. Watt]

So, let me start there and then Scott will pick it up. I think, historically, anybody installed NBT for a long period of time knows that we have very successfully operated this company pre-pandemic at a loan to deposit ratio in the low 90%-s, and we feel comfortable being in that territory. I don't see us getting there very fast. But that's not a place that we're adverse to being at if the loan demand presents itself at the right yield. So, we still view that we got headroom here and loan demand, if strong, we'll keep funding.

[Scott Kingsley, Chief Financial Officer]

I think that the only thing I would add to that, John, is that, Matt, I think we've been pretty transparent about this and John made some comments on that, we certainly don't expect loan growth in the solar residential portfolio in 2023 to be similar to 2022's results.

[John H. Watt]

True.

[Scott Kingsley, Chief Financial Officer]

I think we've talked in the past about where we are today. We think we have a little bit more balance sheet capacity for that type of instrument. We're very happy with that instrument from both a credit performance as well as effective yield performance. It's also a borrower base that has a meaningfully higher than average FICO score. So, we like the borrowing base there.

But I will say that as that business has matured and our partnership with Sungage has matured, getting to more forward flow opportunities for them, warehouse lines of credit that ultimately become securitization, that's where that business is headed. And so, the utilization of our balance sheet won't need to be anywhere near as proliferate going forward. So, I think that gives us a little bit more room relative to that loan to deposit ratio.

I also should remind people that not only do we think we have a couple of hundred million dollars of cash flow coming off our investment portfolio, but the portfolio was $600 million to $800 million larger than it had ever been. So, over time, that will also be a source of net liquidity for us, may or may not change our loan to deposit ratio depending on how much demand we see on the loan side, but in fairness, lots of other liquidity sources that exists within our world. And now that yields on most lending instruments are 6% or north, some mix of wholesale funding is not really a bad thing. It's a little bit more expensive than the deposit base, but not a bad thing.

[Matthew Breese, Stephens Inc.]

Understood. Okay. As you can imagine, this stage in the cycle and everything going on during COVID with car prices, we're getting more questions on exposure there. Could you just remind us within that dealer finance book, how much is indirect auto versus floor plan lending? And then, kind of stratify the FICO exposures you have?

[Scott Kingsley, Chief Financial Officer]

Sure, absolutely. So, that portfolio that's just under $1 billion is all indirect auto. We have very, very small amounts of dealer finance and/or floor plan financing, just some really older legacy relationship…

[John H. Watt]

Legacy less than $20 million.

[Scott Kingsley, Chief Financial Officer]

So, most of that is indicative of that. In terms of FICO band for indirect auto, an average FICO above 750. And to your point, the Manheim Index is still very, very high, very buoyant from historical standards. I think the silver lining to that is we made loans during the last couple of years in indirect auto that were lower than historical yield, which meant that the customer is very quickly working through their pay down of their instruments.

So, I think from a loan to value standpoint, we're not concerned where we are today. There is still a little bit of a backlog relative to vehicle inventory. And especially in our markets that don't enjoy a lot of public transportation -- everybody drives the work. So, from a commentary standpoint, I'd say not concerned about that portfolio and still being able to manage the customer outcomes. Historically, in that employment characteristics or unemployment characteristics and the performance of that portfolio have been [late at the hit] (ph). So, from a productive standpoint, we think that portfolio will still be something that's meaningfully additive to our net mix all year long.

[Matthew Breese, Stephens Inc.]

Got it. Okay. Thank you. Last one for me. Scott, you had mentioned that you expect a slight migration higher on overall expenses in 2023. I was hoping you could just be a bit more specific there. Are we looking at low single digits or mid single digit expense growth this year versus next? Yes, dealer side?

[Scott Kingsley, Chief Financial Officer]

Yes. If I framed it this way, I would tell you that the midpoint between our third quarter operating expenses and our fourth quarter operating expenses is probably a really good baseline before we start to talk about merit increases. We expect sort of a late first quarter merit change for our folks in the neighborhood of 4% to 5%.

And what we think about that is the combination of merit changes and some compression needs that we have with the -- with people being hired in more recent times at rates, maybe a little higher than some of their peers. We do have some compression to deal with. I think that's across the board for most enterprises. So, we suspect instead of sort of the historical standard of 3% type of inflationary increases, we're a little bit above that going forward.

As it relates to the rest of our nonoperating base, maybe expect a little bit more utilization of some technology tools on a fully incurred basis next year that push that up a little bit. But other than that, we're not seeing signs that anything else is really being meaningfully impacted by inflationary price change in our operating base.

[Matthew Breese, Stephens Inc.]

Perfect. I appreciate it. That's all I had. Thanks for taking my questions.

[Scott Kingsley, Chief Financial Officer]

Matt, let me give you one more. Someone just reminded me. Our friends at the FDIC are trying to collect a little bit more on a per deposit dollar assessment basis next year. We think that probably cost us $0.04 a share next year in terms of that higher base. And I think this goes without saying, but as a reminder, in the first half of the year, we still have a negative comparison because of the Durbin impact, because, obviously, that started for us in July. So, $8 million less in debit interchange revenues in the first half of the year is our expectation compared to 2021.

[Matthew Breese, Stephens Inc.]

Got it. Okay. Do you have that -- you said $0.04. What is that on a dollar amount or relative to deposits in terms of basis points?

[Scott Kingsley, Chief Financial Officer]

Yes. So, it's $2.2 million of expected expense. And in my head, that must mean it is 2 basis points or 3 basis points.

[Matthew Breese, Stephens Inc.]

Got it. Okay. Thank you, Scott. Thank you, John. I appreciate taking my questions.

[Scott Kingsley, Chief Financial Officer]

Thank you, Matt.

[John H. Watt]

Thanks, Matt.

[Operator]

Thank you. I am now not showing any further questions. I will now turn the call back to John Watt for his closing remarks.

[John H. Watt]

Thank you, Chris, and thank you all for participating in our fourth quarter and year end 2022 call. Look forward to catching up with you at the end of the first quarter. Have a great day. Thanks.

[Operator]

Thank you, Mr. Watt. This concludes our program. You may now disconnect and have a great day.