Pinnacle Financial Partners Inc
NASDAQ:PNFP
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Pinnacle Financial Partners Inc
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Good morning, everyone, and welcome to the Pinnacle Financial Partners' First Quarter 2023 Earnings Conference Call. Hosting the call today from Pinnacle Financial Partners is Mr. Terry Turner, Chief Executive Officer; and Mr. Harold Carpenter, Chief Financial Officer. Please note, Pinnacle earnings release and this morning's presentation are available on the Investor Relations page of their website at www.pnfp.com. Today's call is being recorded and will be available for replay on Pinnacle Financial's website for the next 90 days.
At this time all participants have been placed on a listen-only mode. The floor will be opened for your questions following the presentation. [Operator Instructions] During this presentation, we may make comments which may constitute forward-looking statements. All forward-looking statements are subject to risks, uncertainties and other facts that may cause the actual results, performance or achievements of Pinnacle Financial to differ materially from any results expressed or implied by such forward-looking statements. Many of such factors are beyond Pinnacle Financial's ability to control or predict, and listeners are cautioned not to put undue reliance on such forward-looking statements. A more detailed description of these and other risks is contained in Pinnacle Financial's annual report on Form 10-K for the year ended December 31, 2022, and its subsequently filed quarterly reports.
Pinnacle Financial disclaims any obligation to update or revise any forward-looking statements contained in this presentation, whether as a result of new information, future events or otherwise. In addition, these remarks may include certain non-GAAP financial measures as defined by SEC Regulation G. A presentation of the most directly comparable GAAP financial measures and a reconciliation of the non-GAAP measures to comparable GAAP measures will be available on Pinnacle Financial's website at www.pnfp.com.
With that, I'm now going to turn the presentation over to Mr. Terry Turner, Pinnacle's President and CEO.
Thank you, operator. Good morning. As you've seen, first quarter was a very strong quarter for PNFP with outsized loan and deposit growth, even in a difficult economic environment, which I believe is linked to our client-centric approach to the market. Much has been written and spoken, I suppose, within the last month or so about whether regional banks like ours could withstand the inevitable movement of deposits up to the money center banks. So I believe we have now answered that question. We have begun every call for years with this snapshot of our quarterly performance.
We choose the four year quarterly format with an intend to showcase in the long-term reliability of our performance on the metrics that we think matter through the cycle. At the bottom of the slide, you can see that asset quality continues to be extremely strong with non-performing assets, classified assets and net charge-offs continuing to operate well beneath the four-year median, which represents a period of exceptional asset quality. It's honestly hard to imagine how I could get any better than that.
PNFP has repeatedly been recognized by Greenwich Associates as having one of the best brands in the country. According to Greenwich, PNFP stands out in the areas of being number one trustworthy and number two easy to do business with. That's an incredibly powerful position to own in these turbulent times. PNFP has the number one Net Promoter Score in our footprint among businesses with annual revenues from $1 million to $500 million. Raven fans are always invaluable, but never more than at times like these. It's just hard to leave a bank that you love and trust. Our ability to leverage the brand to attract the best and most experienced bankers away from our larger national and regional competitors and ever-increasing numbers each of the last several years continues to contribute meaningfully to outsized growth.
The primary source of the growth is market share movement as these new recruits consolidate their loan and deposit volumes to PNFP, decreasing our reliance on economic tailwinds. It looks like to me that first quarter of 2023 was a dramatic demonstration of the power of a differentiated brand as evidenced by a 17% annualized loan growth, 14% annualized deposit growth, 17% year-over-year revenue growth, 30% year-over-year net interest income growth.
So with that as an introduction, let me turn it over to Harold for a more in-depth review of the quarter.
Thanks, Terry. Good morning, everybody. I've got a few new slides this morning, so I'll move quickly through the usual slides to give time for the new information. We've elected to start with deposits. Reporting linked quarter growth of 13% in the first quarter was a real positive for us. Obviously, growing deposits at a reasonable price in 2023 is the key focus. We continue to build out our deposit gathering franchise around HSA, Community Housing Association, non-profits and others, and we believe we are making headway with these and other special deposit initiatives.
Our cumulative deposit beta stands at 46% through March 31. The last two rate hikes have seen more cost increases in relation to the earlier rate hikes. We do have some confidence that our client base appreciates the fact that we've been fairly consistent in our approach to deposit cost increases while competitors are, in some cases, just now beginning to experience a rapid increase in deposit cost.
This is one of our new slides. It's about addressing many of the hot topics that have come around as a result of the Silicon Valley and Signature Bank failures. We could not be more proud of our relationship managers, our support units and how everyone answered the call when all of a sudden we were having to defend our franchise like never before. We armed our people with timely and relevant information and they use that as well as years of relationship building to call the deposit base that was jolted by the payer of the two franchises as well as all of the media attention that came with the failure of these two very unique franchises.
As uninsured deposits, the chart at the top left is our trend for uninsured and uncollateralized deposits for the last few years, going back to pre-COVID. The important trend here is the drop of 6% in the first quarter. Most of that is attributable to increased level of reciprocal deposits that we offer those depositors that request increased FDIC coverage. This is a product that we've offered for more than a decade. Our firm is focused on providing several alternatives to support deposits that may require additional support. All in, we've traditionally been about a median performer on uninsured depositors to our peer group.
Hand in hand with our uninsured deposit position is our liquidity position. We currently calculate that we have enough liquidity available to us to provide about 155% coverage of our $18.8 billion or approximately $12 billion in uninsured deposits. There is also much interest given the FDIC insurance discussion about deposit account sizes. We were hovering around 80,000 per deposit account for the last two years or so. The table embedded in the chart breaks our commercial parts of commercial consumer sizes and trends for those. During COVID commercial balances increased meaningfully likely due to PPP, clients retaining more dollars to counter perceive higher risk going forward, as well as building cash balances due to a fairly strong economic environment, at least for our client base.
As to deposit mix shift in the bottom right chart, we're seeing depositors move more non-interest bearing and lower yielding interest accounts into higher interest rate products, since the second quarter of last year. We're at around 25% non-interest bearing to total deposits. Our financial plan contemplates further decreases through the rest of 2023, but no one really knows where it will end up. We likely will be into the pre-COVID levels, to low 20% as noted on the chart before year end.
Right after the bank failures in mid-March, we began tracking our 200 largest uninsured depositors determined how they manage their deposit balances going back to just prior to the Silicon Valley failure, call it March the 10 through the end of last week. Those 200 depositors comprised about $3.9 billion in deposits as of March 10 with the smallest deposit account being around $9 million. We began contacting relationship managers to find out what changes were happening during this critical time. We identified transactions of about $45 million that went to brokerage account or a large cap bank what appeared to be a flight to safety and something that was not anticipated prior to March 10. As of the end of last week, those same depositors had about $3.9 billion in deposits, which was up slightly from the $3.9 billion that was there at March the 10.
Lastly, we have been able to specifically identify about $200 million in inbound deposits from Silicon Valley and Signature Bank. Obviously, those were new accounts that were not in the top 200 as of March the 10. Given our strong first quarter results on deposits, we believe our deposit base remains very resilient and our deposit growth guidance we offered last quarter remains intact at high single to low double digit growth for the year.
The first quarter was another strong loan growth quarter for us. We are lowering our loan guidance for this year slightly to low-to mid-teens growth from mid-teens growth. As we noted in the release last night, we tightened the credit box for construction at certain CRE categories plus adding the incremental weakening of the macro environment we are opting for the lower loan growth guidance for this strip. We're also reporting a 6% average yield for the quarter and anticipate further increases as we're expecting more announced rate increases and fixed rate loans are coming up for renewal with higher price targets. So we should see fixed rates expand as well.
We're again dissecting our net loan growth based on categories noted on the slide to help everyone better understand the source of our growth. The chart is comparing all of 2022 to the first quarter of 2023. As many of you know, our hiring model requires significant experience greater than 10 years in the market to come to work here. Just to reiterate, substantially all of this loan growth is not to new borrowers showing up at Pinnacle Bank with a new idea to pitch, the borrowers then have extended relationships with our relationship managers over in many cases, decades of working with each other. This is just not true for Charlotte, Nashville, Charleston, and other legacy markets, but that fact applies to Atlanta, DC, and our special lending units as well.
As the top left chart reflects, our GAAP NIM decreased 20 basis points more than we anticipated at the start of the quarter. Out of the abundance of cost, we added approximately $1.65 billion in cash to our balance sheet as a result of the recent bank failures. Thinking back, we built liquidity in a similar way at the inception of COVID, but this trip we've tempered the absolute size of the liquidity bill as well as the maturity to resulting federal home loan bank balances, which come with an average life for two years and a weighted average rate of about 4.5%. With the additional liquidity we have on our balance sheet, our planning assumption that our NIM will likely be down to the remainder of the year by call it ten basis points.
That said, our growth models should provide for increases in net interest income. As we enter 2023, we believe net interest income guidance of mid-teens percentage growth for 2023 over 2022 is reasonable at this time.
As for credit we're again presenting our traditional credit metrics. Pinnacle’s loan portfolio continued to perform very well. As noted earlier, we continue to have a very limited appetite for new construction. We adjusted the CRE appetite chart on the bottom right somewhat so that only a limited number of CRE types are now being considered by our credit officers. Additionally, during the quarter, our credit officers notified our lending units that any new CRE loans that are presently residing on another bank's balance sheet will be more difficult to move to PNFP for the time being.
In summary, our outlook for our loan portfolio from a credit perspective remains strong. So if negative trends begin to develop, we believe we remain advantaged.
My second new slide for the day is about credit. The top left chart deal with trends in construction originations. We began reducing our appetite for construction last summer, which is consistent with the chart. Additionally, the chart would also indicate that our appetite is largely concentrated in warehouse, multi-family and some residential. Secondly, much discussion about renewals of the CRE fixed rate loans, which is the objective of the chart on the top right. Over the next several quarters, we will have approximately a $100 million in fixed rate renewals and the average rate on these loans is currently around 4.5% to 5%.
Our yield target at renewal will be in the 6.5 plus range.
Two comments regarding this chart. Absolute size of the fixed rate volumes coming up for renewal appears very manageable and that with property rental increases over the last three to five years and occupancy levels being stable, we have great confidence that our borrowers will continue to be able to afford the incremental interest expense.
Lots of noise around office CRE right now, and given what we hear about some markets, rightfully so. The bottom left shows about 92% of our office portfolio is in our markets. The chart also details where we are not located. We like our markets and our borrowers. That said, our appetite for any new office is like zero. The table on the bottom right details the granularity of the portfolio as well as select credit metrics. Our credit officers feel very strongly about the quality of our office portfolio that says they're aware of the macro case and are on point with these borrowers and lenders.
Now on the fees and as always, I'll speak to BHG in a few minutes. Excluding BHG fee revenues were up more than $8.5 million. All that said, we're pleased with the effort of our fee generating units as we saw somewhat of a rebound from mortgage, a nice increase in service fees and wealth management. We also have focus on increasing swap fees this year, given recent hires, so far so good.
We continue to anticipate that fee revenues excluding BHG and our other equity investments will come in at around a high single low-teens growth rate for 2023 over 2022. Linked quarter expenses were up primarily due to increased headcount, merit raises at the beginning of January at a target of around 6%, beginning of calendar year adjustments for payroll taxes and 401k Plan match expenses, increased FDIC insurance assessments and timing differences related to credits and franchise taxes posted in the prior quarter.
Additionally, we have taken a hard look at our anticipated results for the year, in comparison to our financial plan for 2023 and offsetting the increased linked quarter expenses, we are reducing our anticipated incentive payouts to approximately 70% of target awards in the first quarter. The reduced incentive accrual speaks to the bearable cost nature of our expense base. Along with deferring projects are slowing our hiring, we feel like we have enough leverage to throttle back on expenses should we need to.
Overall, we have a bold plan for this year and are fully energized to seize opportunities we have in front of us. That said, we have modified our growth plans to this year and have incorporated that into our updated outlook. As it stands, we have lowered our expense guidance and feel like our expense base should result in low to mid-teens growth for 2023 over 2022. As the capital tangible book value per common share increased to $46.75 at quarter end, up 18% linked quarter annualized from the last quarter.
Our capital ratios remain above well capitalized. We like our tangible common equity ratio, which stands at 8.3%. We believe the actions we've taken to preserve tangible book value and our tangible capital ratio have served us well and have no plans currently to alter up our Tier 1 capital stack via any sort of common or preferred offering.
Couple of new things related to this slide. The chart at the bottom of the slide tracks select capital ratios as of the end of December, compared to peers given the impact of losses associated with the HTM and AOCI portfolios. We are very pleased with results given our capital peers to be able to withstand any sort of changes to the capital rules that may be coming our way from either the standard setters or the regulators.
Now, a few comments about BHG before we look at the outlook for the rest of the year. As the slide indicates, BHG had another great quarter in originations, even though originations did decrease from the prior quarter with BHG’s implementation of a tighter credit mark, so fewer of the lower credit score loans were funded in the first quarter. BHG believes last year's volumes production during 2022 would've been reduced by 18% as the same credit standards been in place for all of last year versus credit standards that are in place now in 2023.
All of that is related to the significant reduction in the lower tranche approvals, which now are at 0% approval rates. Spreads did expand in the first quarter from the fourth quarter for loans sold into bank network. First quarter’s spreads were 9.4% compared to 8.9% in the prior quarter, thus coupled with a larger allocations of the auction platform this quarter, gain on sale revenue was up 12.7% in the first quarter compared to the fourth, so that map works.
The accrual for loan substitutions of prepayment increased 5.81% as a more precautionary posture by BHG management has been in effect for the last few quarters. BHG’s accrual for loan substitutions and prepayments for its sold loan portfolio increased from $314 million to $350 million, call it $36 million increase. As the blue bars in the bottom right chart show recourse losses were stable at 4%, basically consistent with last year.
This is the new slide focused on BHG’s on balance sheet lending strategy. As you recall, the gain on sale program is sourced through BHG's bank network as depicted on the previous slide. On balance sheet strategy is a combination of several funding sources, including securitizations, negotiation for blocks of loans to individual banks and other funders, et cetera. The top left chart shows the loans BHG holds for investment versus held for sale to the community banks and thus off balance sheet along with the associated allowance for loan losses.
Given the macro environment, as we mentioned, and as we mentioned last quarter, BHG increased its on balance sheet reserve for loan losses to $178 million or 5.19% of its on balance sheet loans from 4.59% last quarter or about a $31 million increase. Of course, CECL is still on the radar for adoption on October 1. We continue to anticipate the estimated CECL Reserve to be in the 8% to 9% range.
The bottom left chart shows loan yields for the last several quarters along with the average funding cost. The yields consider average loan balances and include both HFI and HFS in the denominator. The borrowing rates would include both borrowings collateralized by loans as well as the firm's working lines of credit. With the securitization completed in March, the borrowing rates increased to 5.6% while the loan yields were at 15.4%. Thus, spreads were at around 9.8%, which is pretty strong in this environment.
As usual, the BHG balance sheet and P&L is included in the supplemental information. The bottom right charge reflects net charge-offs and as you can see, first quarter shows increased charge-offs at around 4.4%. Lastly, as mentioned, BHG did successfully complete its seventh securitization during the week right after the Silicon Valley and Signature Bank failures. To get that accomplished at a reasonable rate was indeed a great successful BHG and reflects the significant appetite for their credit.
As mentioned earlier, BHG tighten its credit box, particularly with respect to lower charges of its borrowing base. This will have an impact on both production and spreads going forward. BHG refreshes its credit score monthly, always looking for indications of weakness in its borrowing base.
Credit scores were up slightly from the previous quarters, so their bars have remained resilient during the cycle thus far. In comparison to other consumer lending, we believe BHG borrowers remained well compensated with average borrower earnings being around $293,000 annually.
Looking forward some key points I’d like to reemphasize on several we’ve been talking about for the last three to four quarters. First, BHG management has responded to the macro environment in a very real way. BHG is and will be increasing reserves based on macroeconomic data at least over the next few quarters.
Secondly, BHG has been modifying their credit models towards originating less risky assets. Production volumes are strong and we believe they have great momentum to maintain production levels equal to those in 2022 or 2023. BHG’s new funding alternatives will broaden their already strong liquidity platform, which we believe is unmatched by their peers.
Currently, BHG has $1.4 billion in available liquidity to fund this franchise with more interested inbound calls coming. Lastly, BHG took steps to limit its headcount with job eliminations and eliminating most open positions as well as other expense reductions.
For this quarter, we are reducing our outlook for BHG from basically flat earnings growth this year to somewhere around $180 million to $210 million for the year. We continue to have great confidence in our partners at Bankers Healthcare Group to deliver strong results over the long-term.
Quickly, again the usual slide detailing our current financial outlook for 2023 in the interest of time, I won’t go through all these again. Suffice to say there’s a lot of macro issues swirling around right now. We have put forth a business case on what we think the Fed will do on rates. Who knows what is going to happen.
We believe a recession is likely how deep or severe we nor anyone else really knows. What we do know is that our business model is resilient, relationship based and environments like we have today that matters a lot. Our management team has experienced and we have tackled economic downturns before. We have great confidence of whatever curveballs get thrown at us. We can handle them and perform in a very outsized way.
And with that, I will turn it back over to Terry.
Thank you, Harold. I suppose it’s always true, but it seems to me that I seem to notice it more in difficult economic environments that investors rightly look for the critical measure that’ll unlock significant value in the current environment. It might be a deposit cost beta, it might be the average deposit account size might even be the excess FDIC, deposits in excess FDIC coverage limits and any and all of that’s informative to be sure.
But at Pinnacle, we will simply continue to rely on what we always have, and that’s a differentiated brand is evidenced by our unusual ability to turn clients into raving fans. And our most recent data from Greenwich, we continue to have the highest Net Promoter Score in our markets among businesses with sales from $100 million to $500 million.
I’m confident that that has and should continue to enable us to retain and grow deposits even in a difficult economic environment. Fortune magazine just named us as the 24th best workplace in America, and so we continue to be a magnet for talent. We attracted another 26 revenue producers during the first quarter of 2023, and we expect to be the employer of choice for those client focused bankers who are continually frustrated by their inability to get their tight [ph] clients taken care of at many of our larger competitors.
I think that most people understand that that understand our company, they understand the linkage between the pace of our hiring and the pace of our long growth. It’s simply a matter of our associates consolidating their books from where they were to us and because of their intimacy with the credits as Harold alluded to earlier, the asset quality continues to be strong for those credits that are being moved.
Similarly, we leverage our brand and hiring model along with extreme focus on execution to attract outsize core funding. We fully expect the various specialty deposit initiatives that we’ve developed over the last several years, like HSAs, like HOAs and property managers like captive insurance companies, just as examples to continue to support outsize deposit growth.
Our capital levels compared to peers even after marking for held-to-maturity and AOCI losses are very strong in relation to those peers. And honestly, I think that that’s tied to an experienced management team that’s largely been at the [indiscernible] for 23 years through all the ups and downs.
It was tempting for us just as it was tempting for others to deploy excess liquidity in the bond book, but we just couldn’t bring ourselves to load up on bonds when rates were at or near all time lows. In our first decade, we endured the dot-com bubble and 9/11 and still produced the second highest total shareholder return of all the publicly traded banks in the United States.
Our second decade was in the aftermath of the Great Recession and included the pandemic, again in the second decade, we produced the second highest total shareholder return of all the publicly traded banks in the United States. And I obviously don’t know what the future holds, but I’m believing that our differentiated brand and our intents focus on disciplined execution is likely to stand us in good stead in the third decade as well.
So operator, we’ll stop there and take questions.
Thank you, Mr. Turner. Everyone, the floor is now open for questions. [Operator Instructions] Your first question is coming from Steven Alexopoulos from JPMorgan. Your line is live.
Hey, good morning, Terry. Good morning, Harold.
Good morning, Steve.
Good morning.
I want to start first on the comment that you retained substantially all of your clients during this period. I’m curious after the news of Silicon Valley Bank and Signature failing broke take us behind the scenes. What were the conversations with your large depositors? Were they panicked? Did you have to convince them to stay? Did they see Pinnacle is being very different? Did those banks – please provide some color with that.
Yes, Steve, that’s a great question. I think our normal – set aside the crisis, our normal operating mechanism here is that every Monday morning, we are in touch with our entire sales force. And so specifically what I’m saying there is, Rob McCabe runs a meeting for Tennessee, Alabama and Kentucky. Rick Callicutt runs a meeting for North and South Carolina and Virginia. And Rob Garcia runs the meeting for Atlanta.
And so that’s our normal mechanism to be in front of the sales force. And we talk to him about whatever the important initiatives are, whatever the priorities are, we give them other sales information, we train relative to product knowledge, all those kinds of things. So on that Monday following the Silicon and Signature failures, we armed them with a variety of handouts, one of which basically took key metrics from Silicon, Signature and Pinnacle. And outline things like, what’s percentage of assets allocated to the securities book, what’s the held-to-maturity loss, what’s a percentage of uninsured deposits. And a series of those important measures that were intended to demonstrate the soundness of our balance sheet and P&L versus those highlight the differences between our deposit book and theirs and so forth.
And so in addition to arming them with that kind of information, they were also armed with sort of refreshers on FDIC coverage and what can be done through ordinary course, account styling, all those kinds of things to maximize FDIC coverage. And then also things like the reciprocal deposit arrangements that Harold alluded to in his comments. And so, anyway, we armed and we encouraged them to be proactive, to be in touch with large depositors and so forth. I think the – I don’t think they talked to very many people that had zero concern. I don’t think they talked to very many people that were extremely panicked, but clearly there was concern. But as you know information’s a powerful thing. And so I think we were successful in sort of allaying concerns that people might have and highlighting the difference between our franchise and the two failed banks. Am I hitting it what you’re looking for?
Yes, that’s helpful actually. So it sounds like you gave your frontline staff the information they needed to go out to your clients. And it doesn’t sound like there was a panic from your clients to move to larger banks or money market funds or something like that. And Harold gave the number that of your largest clients you brought. Sounds like some deposits back. So if things now stabilized, Terry, is that how you’d describe it?
I would, I think I had a basketball coach that always said, Turner, we don’t hand out awards at halftime. I don’t think the contest is necessarily over, but it does feel stable to me. It’s less a topic of conversation. I think if we are able to get through without further high profile bank failures and so forth, my belief is it will stabilize.
Okay. That’s helpful. And I had a question on the loan side. So you guys dialed down the loan growth expectations for this year. You’re known for going against the grain. I’m curious, are you – what are you seeing from peers? Are they tightening the credit box here too? And why is this not an opportunity for you guys to use this as an opportunity to take customers and share? Or is the environment just so uncertain that it’s time for you guys to be more cautious too?
Steve, that’s a great question. I think in terms of credit tightening, I would say, it’s mixed out there. I do think most people probably are leaning toward a more conservative stance as it relates to credit. I don’t think that’s universal, but I do think you would find it in large measure out there. I think in our case, I appreciate the question, because I think as it relates to the approach to the C&I segment including owner-occupied real estate, those doors are wide open. We haven’t tightened there. I think most of the tightening would center in the commercial real estate categories, both construction and mortgage product. And so I think that’s really where the slowing is. So to your question about, isn’t this a time to take share? I believe it is a time to take share, and I believe we will take share, but that is – would be concentrated in the C&I segment with a particular focus on small businesses and middle market companies.
Okay. That’s helpful. And if I could ask you one last one, I’m curious big picture and actually I’d love to hear from both of you. So as you guys watch what happened at Silicon Valley Bank, who basically lost or was in the process of losing 85% of their deposits in two days, right? It illustrated the speed at which deposits can now leave the system. When you look at that, how does that change the way you think about risk, liquidity, positioning? I’m just curious, what are your key lessons that you learned from that and how do you change the way you run the bank now because of it? Thanks.
Yes, Steve, there’s a lot in that question to share. I think, bankers, we tend to focus to the left side of the balance sheet. I think we’ve all refocused back on the right side of the balance sheet. Our sales force – instructions to the sales force for years was around deposit gathering. We were now back at that and making sure that our deposit portfolio is as diverse as granular as our loan portfolio that we believe it is. And so I think it’s gotten a lot of our relationship managers, the people who interact with depositors on a daily basis back in the game with respect to how critical this deposit book is. As to liquidity, I think we’re likely to run elevated liquidity at least for the next several quarters. As you might expect, we’ve had several conversations with regulators. They’re all routine in nature, but they’re interested in what kind of things we may be looking at differently.
So with that, I’ll stop and let Terry kind of give you some comments. But at the end of the day what I believe this bank is getting re-energized around is deposit gathering. And if history proves what’s going to happen in the future, I think we’ll be very successful in some of these new initiatives and how our people approach their client base.
Yes. Steve, I think what Harold said is true. I think there’ll be an increased emphasis on diversification within the deposit book. I assume it is the case for you, for me, the principal risk as it related to deposit granularity had to do with that balances and excess of FDIC coverage limits. It sort of doesn’t matter what other concentrations might underlie that, just the fact that it was over the FDIC limit is what created that flight safety. And so again, I think you’ll see for us sort of increased emphasis on deposit granularity and ability to put our clients in a position where they feel safe and secure.
I’ll switch gears, I’ll make two points. Number one, I do mean what I said in our original presentation, I think the power of having raving fans is incredible. And again, companies that fail had good fans too, but they did not have net promoter scores like we do in that commercial segment. And I think that as I said, it’s very hard to leave a bank that you love and trust. And so we’ll continue to pound away on that. I know it’s lost on a lot of people that have a preference for financial analysis. But at the core, I do think that was the principle mechanism that enabled us to keep our clients and keep them calm and so forth.
Along those lines, one last thing different than some of the financial things that Harold mentioned, I think you’ll see an increased emphasis on our crisis communication plans. Again, I think we’re great internal communicators. I think we did extremely well following those bank failures. But I do think that we’ll – and try to enhance crisis communication mechanisms because to your point, man, things move fast and you better have an ability to get your people armed with what they need when that comes up. And so I think we’ll do more work around crisis communications.
Perfect. Thanks for taking my questions.
Thank you. Your next question is coming from Jared Shaw from Wells Fargo Securities. Your line is live.
Hey, good morning.
Good morning.
Hi, Jared.
Maybe just shifting a little to the BHG side and good color there. I guess, when you look at the BHG charge-off descriptions, what’s the difference or why is the on balance sheet charge-off level so much higher than the losses on the sold loans?
Yes, I don’t really have a good answer for you there. It’s a great question. They do not or have not – they don’t go through any kind of special process to say, we’re going to keep these loans versus sell these loans. There’s a – it’s more of a kind of a haphazard kind of process they go through to figure out which bucket the loan goes into. I would imagine that some of the newer credits call it the 2021 and 2022 vintages may be more prevalent on the balance sheet side than some of the loans that have been aged longer with the gain on sale platform, could have something to do with it.
Okay, okay. And then if we look at that 18% pullback that you’re referencing compared to last year’s origination, is that a – should we be thinking about that being higher risk over the next 18 months or so, just given the lower credit standards compared to what you’re putting on now?
Well, I think they believe they’re going to have call it elevated charge-offs from those E&F tranches, probably through the next couple of quarters. When they believe that most of them will have seasoned enough, and I think they think anywhere from 24 to 36 months is the appropriate seasoning for those particular credits that the proverbial credit losses will get through the state. So that’s what they believe anyway.
Okay. And then just the final one on BHG, when we look at that Slide 22 and look at the expectation for pre-tax earnings, does that include the impact of CECL in October? Or would that be in addition to that or separate from that through equity?
Well, that would include the P&L impact of CECL for the last three months of the year, for sure.
Okay. Okay, great. Thanks very much. That’s my questions.
Thank you.
Thanks, Jared.
Thank you. Your next question is coming from Catherine Mealor from KBW. Your line is live.
Thanks. Good morning. One follow-up on BHG was, it seems that throughout the quarter there was still a lot of appetite for banks on the auction platform for to buy BHG’s paper. Have you seen any change in that in the back half of the quarter or maybe in April so far? And what is the risk that in an environment where you’re seeing banks reduced loan demand across the board that they become less inclined to buy BHG paper? Thanks.
Yes, Catherine. BHG, their management was concerned about that in the earlier part of the quarter, but every day they opened up the auction platform, the banks can. And so that’s true through today. They don’t have any reason to believe right now that they won’t see kind of a similar placement number in the second quarter. And I think that here for the rest of the year, they ought to have a fairly consistent growth curve here for the remaining three quarters of this year, which they’ll only be able to achieve with the gain on sale auction platform. So, I think they’ve got great confidence that the banks will continue to show up here over the next several quarters.
Hi Catherine, I might just comment quickly in simple terms. First quarter was a record quarter for BHG in terms of placements. And March was the highest month in the quarter in terms of placements. So it exceeded February on the heels of the bank failures and so forth. So again, that’s a pretty good testament. As Harold said here in the early part of April, it appears to be functioning exactly as it always has.
Great. That’s really encouraging, thanks to that. And then maybe switching over to credit. Just I saw your outlook that calls for the ACL to be flat in the second quarter over the third. And your credit just remains so strong for you. Just curious what it takes from a macro perspective or what you’re looking at maybe at your borrowers that could maybe if your loss potential doesn’t change dramatically, but just from a macro perspective, what might make you decide you need to build that reserve a little bit more than what you’ve got. And I’m particularly curious about the CRE reserve, which is 66 basis points, feels low, but I know that includes a lot of different type of CRE projects in there. So just kind of curious what your – how you think about – how comfortable you are with that ACL and the outlook for that over time? Thanks.
Yes, sure. Well, we’re going to – we’re obviously going to let the credit models around unemployment and GDP drive kind of the – what may be the change agent for what the reserve could do over the next several quarters. We do have the ability to overlay to add qualitative assessments in there, and we have done that. If we were to follow just the strict nature of the quantitative reserve, it would be meaningfully lower. So we are, call it, adding an incremental reserves as a result of the environment and kind of the uncertainty around it. But as long as – our conversations with our credit officers continue to reflect a pretty benign credit environment. We think where we are is pretty good. So, we don’t anticipate a big uptick in the reserve here in the second quarter, who knows what’s going to happen in the third or fourth. But as it sits today, our credits are performing like we would expect them to do.
Great. That’s all I had. I’ll hop back in the queue. Thank you.
Thanks, Catherine.
Thank you. Your next question is coming from Casey Haire from Jefferies. Your line is live.
Thanks and good morning guys. I want to follow up on the NIM forecast. Just to clarify that Harold, I think you said down 10 bps. So we end the year at 3.30 and then what kind of Fed forecast are you guys contemplating? In the release, you guys talk about potential Fed cuts or the slide deck rather.
Yes. We’re, I think, 5.25 by the end of June and then getting down maybe one or two cuts in the last half of the year, which are pretty inconsequential to our forecast. But that would be where we – what we think our case is for what the Fed could do, who knows what they’re going to do. But as it sits right now, not really sure that’s going to have a significant impact on our call it our NIM or noninterest income once we get past, call it, August or September. Did that get to your question, okay, Casey?
Yes. No, that’s great, Harold. And so the down 10 bps, so by 4Q, you expect to run around 3.30?
Yes, that’s where our planning assumption is in that kind of a modest decrease in NIM.
Okay. Great. And what kind of deposit beta are you – like where do we go from the 46%?
Well, we think our deposit – well, if you assume that the rate-up environment is going to end by the end of June, we’re probably closer to 48% to 50%.
Got you. Okay. And then just – one more follow-up on BHG. So if I take the midpoint of the guide, it looks like in the remaining quarters, you guys are expecting a little bit of an uptick from the $19 million run rate in the first quarter. And just looking at the slide, just what’s driving that improvement? Is it the cost measures because it feels like you guys are building more reserves and the funding costs are pressuring. Just some color on what’s driving that, that improvement.
I think your first Casey, I think your first assertion is right. They do believe they’re going to see upticks here for the rest of the year. That could be because I think the reserve build in the first quarter was more significant than they think what it’s going to be in the next few quarters. So it could be partially that. But right now, their production seems to be hanging in there. They still believe they’re going to be near what the production levels were last year. So then they’ll have the kind of the ability and the decision to send loans to the auction platform or keep them on balance sheet. They’ve got some obligations here in the second quarter to fund more on balance sheet with some of the, call it, private equity funding sources that they think they’re going to be able – that they will do and still be able to send loans to the auction platform to kind of get their bottom line number moving on. I have a lot of worries Casey. Did I get through it okay?
Yes. No, that’s great. Thanks, Harold. Last one for me, just on the expense side of things. In the release, you guys make mention of potentially pursuing cost measures given a tougher revenue outlook, just what would prompt you guys to explore that further? And is there like a profitability or efficiency ratio in mind that you guys would look to protect?
Yes, I don’t think we have any kind of hard goals on efficiency ratios. But what we want to make sure everybody understands is that we do have a meaningful variable cost component in our plan. And a lot of that evolves around our incentive accruals and nobody wants to see us hit that. But in the past, we have always, when we’ve had more difficult, call it earnings growth years to go at that incentive accrual and use it to help insulate our results. We’ve also got the ability to back off on hiring if we need to do that. We’ve got several projects that are slated for the rest of the year. Now the projects probably won’t result in a significant kind of cost savings measure for 2023, but they could for next year. So we’ve got several options that we could go into if we needed to help protect what we believe is a reasonable result for this year.
Great. Thank you.
Thank you. Your next question is coming from Brandon King from Truist Securities. Your line is live.
Hey, good morning.
Good morning.
Good morning.
So I understand the decision, hey, hey – so I understand the decision to have a more conservative liquidity position going forward. But I wanted to know what you would need to see to for that to change and to feel more comfortable deploying or paying down some borrowings?
Yes, I think, we will see some of these federal home loan bank borrowings and they’ve got an average life of two years, and a lot of them have lives of call it one to six months. Right now we don’t intend to renew those. So we’ll let our own balance sheet cash probably drift down some. When you look at our own balance sheet cash compared to peers, we’re probably a little lighter than say some of our peers. So we’ll probably be looking at more of a median performer on that. So that could have – that could find its way to our – call it our second quarter, third quarter liquidity decision.
Okay. And also wanted to get more color on the fixed rate loan repricing and wanting to get a sense of what those conversations are with customers and how are they navigating this environment? And it seems like some customers may be preferring more variable rate loans nowadays. And I noticed that your swap fee income has increased. So just some color on that and kind of what that means potentially for the balance sheet as far as variable rate loans versus fixed rate loans and the asset sensitivity of the balance sheet going forward.
Yes, I don’t think we’ll see a dramatic change in the composition of our balance sheet as far as the allocation of fixed rate credit. With the rate up cycle, we’ve had a lot more requests for fixed rate lending. Hopefully, well, not hopefully, but we’ve countered that with an active swap program because we believe there comes a point where you just got to put a barriers around how much fixed rate lending product you want to allocate to the balance sheet. And so we’re about trying to create more of a variable rate loan portfolio currently. Yes, I’ll stop there Brandon and see if I’ve got to your question.
Yes, yes. And kind of what I’m getting at is that, we could get potential Fed rate cuts later this year and next year. So just wanted to get a sense of how you plan on kind of protecting the net interest margin in that environment?
Yes, we’ve got some floors that we’ve entered into over the last several months that’ll help protect it. But I think going back to the last down rate cycle, we were pretty aggressive on reducing deposit rates. I think that makes sense in light of how aggressive we’ve been on raising deposit rates. So we will lean into our relationships and make sure that whatever pricing we provide depositors is fair and reasonable, but we won’t be hesitant to reduce deposit rates when we need to.
Okay. Answers my questions. Thank you.
Thanks, Brandon.
Thank you. Your next question is coming from Michael Rose from Raymond James. Your line is live.
Hey guys. Just a few – most of my questions have been asked and answered. Just a few more. Harold, if you could just give some color on the non-BHG fee guide and kind of what you would expect kind of by business unit. Obviously, the growth guide is pretty solid, so just wanted to get some color on the components. Thanks.
Yeah, I think it at the end of the day, Michael, that’s a great question, but at the end of the day, it has to do with some hiring we’ve done over the last two or three quarters, and our expectations that those revenue producers are going show up primarily in wealth management and capital markets and capital markets we include the swap programs among others. So we expect them to show up with a nice lift in our revenues for 2023. Mortgage last year was down pretty significantly. We like our markets, we like the pipelines that they’re looking at currently. And so we expect mortgage to be much more impactful in 2023 or positively impactful in 2023 than what happened in 2022. So I just off the cuff, I’d say those are the color in [ph] three or four areas that we’re expecting big things from.
Great. And then maybe just moving back to deposits, appreciate the color on the different initiatives. Can you just kind of stratify how much they kind of contributed to this quarter’s growth and what we should expect from contribution point of view for the various initiatives laid out as we kind of move through the back half of the year, just trying to size the impact? Thanks.
Yes. I want to say the especially initiatives have grown and I saw a schedule the other day on that of about $400 million in deposits since I call it the end of last year or the fourth quarter of last year.
Okay. Helpful. And then maybe just one final one for me, just going back to an earlier question around you guys being opportunistic. I mean, your efficiency ratios in the low-50s, pretty good profitability here even despite some BHG kind of headwinds. I mean, why not ramp-up the hiring efforts? I would think that kind of across the industry is loan growth flows is going to be a lot of kind of idle lenders sitting around and you guys have built out some markets opportunistically over the years, most recently D.C. Terry, if you can just give us kind of your holistic thoughts and I know you've talked about some other markets in the past, I don't want to put the cart before the horse, but anything kind of move more into focus just given what's going on industry wide? Thanks.
Yes. Thanks for question, Michael. I think in the case of hiring I think we are moving forward at a pretty decent pace there. As I mentioned, I think 26 revenue producers in the first quarter that gets you north of 100 revenue producers hired for the year. I think last year was a record that something near 140, but north of 100 would be one of our higher years for revenue producing hire. So I think you can see that we're intending to continue the share play of hiring great people, having them move the books business to us. I think as it relates to market extensions, what we've said really is we want to be in all the large high growth urban markets in the southeast, excuse me. And so the principal voids I think for us are primarily in Florida and particularly the markets like Tampa, Orlando and Jacksonville would be particularly attractive to us.
And so the catalyst to go there is just really about the availability of people. When I say that I'm not speaking of the availability to hire some revenue producers, that's easy, but what we need before we go is to believe we can hire somebody who can hire a lot of people across multiple disciplines, including the wealth management businesses and so forth. And so I think you're on the right track. I think the likelihood that some of those people are frustrated and want to have a different opportunity is high. If we find those people, we would go and I think you've heard me say it before Michael, that I'd go this afternoon if I had them, I'll go next week or next year or whatever. We believe we're going to produce dramatic growth without doing it, but if we believe we've got an opportunity to go to one of those large high growth markets in the southeast, we'll definitely try to see them.
Great guys. Thanks for taking my questions.
Thank you. Your next question is coming from Stephen Scouten from Piper Sandler. Your line is live.
Hey, good morning guys. Appreciate it. Do you guys have any data on kind of what you're seeing currently on the marginal cost of deposits? I'm not sure if I missed any commentary there, but in terms of new add-on CDs, other new pricing as of...
Yes. Well, our average deposit costs were up call it 63 basis points. I think our incremental accounts are coming in call it in the mid-3s somewhere like that or call it negotiated rates?
Okay. Got it. And on the BHG average income you guys give, I know I haven't looked at how far back you've given that, and I know it was 293,000, I think that's what it was last quarter. Has that migrated significantly over time to your knowledge? Or has that always kind of been in that range as they've been originating this portfolio?
Stephen, I can't recite the numbers, but I don't think it's a significant migration. It obviously moves some, but I don't think it's – I don't think it's had meaningful movement in it. It's always been a high disposable income segment that they loan to.
Yes, makes sense. And then just last thing for me, kind of a lot of color you guys gave on the office portfolio and appreciate that. Do you have data, and I'm not sure if I missed it on the like segmentation between Class A, B, C?
Yes. I don't have it with me but substantially all of our office would be A and the B. Most of it is suburban, although we've got some of the larger projects are more call it near City Center counter project.
Got it. Okay, perfect. Well, everything else I had was asked and answered, so thanks for the time.
Alright, thanks Steve.
Thank you. Your next question is coming from Brett Rabatin from Hovde Group. Your line is live.
Hey guys, good morning. Just two quick ones. First on the expense guidance, as you guys approach $50 billion, is there any cushion that you're putting in there related to approaching that number? And have you had any conversations around what might be entailed with potential changes in regulatory oversight for that number?
Yes, Brett, that was a great question. No, we've not, call it been investing in areas to accomplish a $50 billion kind of regulatory threshold. What we have been doing is traditionally the regulators will always even though $50 billion might be a bright line in some respects, and right now we don't know of any changes at that level. But if history proves itself, again they will begin coaching us immediately. And we’ll have, call it, whatever year – whatever time period, call it, two to three years to kind of get prepared so that when we get the start market, $50 billion there, we’re in good shape. But today, as far as our stress testing, our crisis management, we feel like we’re in great shape with respect to our, call it, regulatory compliance.
Okay. Helpful. And then I joined late, so you may have talked about this, but on the wealth management side, I know you’ve hired some productive or bigger teams on that platform here in the recent quarter or two. Have those teams moved over the bulk of their relationships? Or is that still a process that could lead to higher income related to that particular line?
That would still be a meaningful part of the income growth that we would anticipate, the length of time for a lot of the wealth managers, particularly talk about the brokers and trust administrators I think in the case of the brokers is generally a shorter cycle than, say, a commercial relationship manager, which would take about four years to consolidate their book. It’s a little bit shorter for the brokers. Probably similar for the trust administrators. But yes, we still have hired a bunch of people who are still in early stages of consolidating their clients from where they were to us.
Okay. So Terry, that number in terms of the fee income related to that, that could continue to have sizable increases in this next two quarters, you think, based on the recent hires.
I do.
Okay. Great. Appreciate the color.
Thanks, Brett.
Thanks, Brett.
Thank you. Your next question is coming from Brody Preston from UBS. Your line is live.
Hey good morning everyone. Thanks for allowing me to hop in the queue. I just have a couple of questions. Harold, one of them was a clarification on the BHG financials. Could you clarify for me if the provisioning that BHG does every quarter? Is that just related to the on-balance sheet loans that they have? Or is that related to any like first loss kind of position that they have from the loans that they sell as well?
No, that’s all related to the loans that are on their balance sheet.
Okay. I asked just because when you kind of back into – if you use the ALLL [ph] disclosure and the provision disclosure, you can kind of back into the charge-offs and the charge-offs the last couple of quarters, at least from an annualized rate perspective, we’re kind of in the mid-teens levels. And over the last four quarters, they’ve averaged about 12.5%. And so one of the two-part question on that is what’s kind of causing the elevated charge-off rate in a relatively strong economic environment? And secondly, if 12.5% is the average charge-off rate over the last four quarters, why is an 8% to 9% kind of reserve ratio makes sense just given how the CECL accounting typically works.
Yes, I don’t know. I don’t compute the 12% but there are elevated charge-offs for those E&F tranches from 2020 and 2021 that are coming forth this year. That’s why they believe that over the next couple of quarters, we should see some relief from those charge-offs.
Got it. Okay. Thank you.
Thank you. Your next question is coming from Brian Martin from Janney. Your line is live.
Hey, good morning guys. Thanks for letting me jump in here. Just two things for me. Harold, just to clarify, your outlook or just kind of margin conversation, the 10 basis points, does that include the reduction? Or kind of how are you thinking about that – the liquidity you put on? I mean the timing – does that contemplate full reduction in that liquidity? Or I know you said you’re going to keep it on for a bit. So just trying to understand that.
Yes. As far as where we are today, we think about half of that will be gone by the end of the year.
Okay. Half will be gone. So half is in this – kind of the guide this year and then there’s more to come next year. And then just kind of the end of period, kind of the March margin inclusive of that liquidity. Can you give a little bit of thought on where you ended March versus the quarter on the margin?
The March margin was around, I think, 348 or something like that.
Okay. So a little bit below it. Okay. And then just – I think you talked about – maybe if I heard it right, the continued migration on the deposit side, maybe being – the noninterest-bearing maybe being below 20% by the end of the year. Just kind of in that context, just the specialty deposits that the initiatives you guys have in place A, is that 20% what you said or just is that accurate? Just so I heard it right? And then just as far as how much contribution you expect in 2023 from these specialty initiatives relative to kind of – if you’re looking at 10% deposit growth, how much of the specialty – the new initiatives kind of contribute to that 10% this year?
Yes. I think the target that we’ve handed the – all the leadership around those deposits or on those specialty initiatives is somewhere around, call it, $2 billion in growth this year. So we’re hoping that with where they are thus far that they’ll be able to get to that number as – Brian, did that get to your question?
Yes. Yes, I think the only thing we just clarified in that 20% number, Harold, if that 20% DDA is kind of where you think you’re trending toward by year-end.
Yes, who knows where we’re going to end up, but that’s the planning assumption that we are building, that we’re using.
Okay. Got you. And Okay. And then just the last one, Harold, just on the – back to the margin for just a moment. The outlook, if you do see rate cuts later in the year, it sounds like you have some floors in place. So I mean, probably not much of a change? Or just how does the margin outlook with rate – with potential rate cuts in there, I guess that’s what it sounds like you have kind of in the – in kind of your planning assumption at the moment?
Yes. We do.
Got you. Okay. I think I’m good. Thanks for taking the questions.
Thank you, Brian.
Thank you, Brian.
Thank you. That completes our Q&A session. Everyone, this concludes today’s event. You may disconnect at this time, and have a wonderful day. Thank you for your participation.