Byline Bancorp, Inc. Q4 FY2023 Earnings Call

Good morning, and welcome to Byline Bancorp Fourth Quarter 2023 Earnings Call. My name is Carla, and I will be your conference operator today. Please note, the conference call is being recorded. At this time, I would like to introduce Brooks Rennie, Head of Investor Relations for Byline Bancorp to begin the conference call.

Thank you, Carla. Good morning, everyone, and thank you for joining us today for the Byline Bancorp fourth quarter and full year 2023 earnings call. In accordance with Regulation FD, this call is being recorded and is available via webcast on our Investor Relations website, along with our earnings release and the corresponding presentation slides. During the course of the call today, management may make certain statements that constitute projections or other forward-looking statements regarding future events or the future financial performance of the company. We caution that such statements are subject to certain risks, uncertainties and other factors that could cause actual results to differ materially from those discussed. The company's risk factors are disclosed and discussed in its SEC filings. In addition, our remarks may reference non-GAAP measures, which are intended to supplement, but not substitute for, the most directly comparable GAAP measures. Reconciliation for these numbers can be found within the appendix of the earnings release. For additional information about risks and uncertainties, please see the forward-looking statement and non-GAAP financial measures disclosure in the earnings release. I would now like to turn the conference call over to Alberto Paracchini, President of Byline Bancorp.

Thank you, Brooks. Happy New Year, and thank you all for joining us this morning to review our fourth quarter and full year 2023 results. As always, joining me this morning are Chairman and CEO, Roberto Herencia; Tom Bell, our CFO and Treasurer; and Mark Fucinato, our Chief Credit Officer. Before we get into the results for the quarter, I want to pass the call on to Roberto to comment on a few items. Roberto?

Thank you, Alberto. Good morning, and best wishes for a healthy and happy new year to all. I start my remarks by acknowledging Byline shareholder and friend, Dan Goodwin, who passed away in Chicago last weekend. Dan's story as a human being and business leader is simply remarkable. I met Dan almost 14 years ago and most recently interacted with him prior and after the merger between Byline and Inland Bank. It was important to him that we referred to our coming together as a merger, not an acquisition. That alone tells you much about him and his value system. He was pleased with how we negotiated the key points of the merger, and he was happy to have become a shareholder of Byline. I think he was the happiest when he learned we had selected Pam Stewart as his representative on our Board. And if you've met Pam, you would know why that is the case. Our sympathy and heartfelt prayers go to his wife and family as well as his extended Inland Bank and Real Estate Group family. We have lost a Chicago Titan, no doubt. Importantly, we have gained so much more from his actions and legacy. A few seconds of silence to honor his memory are appropriate. Thank you. Dan would have been as pleased as I am with the results for the quarter and the full year. 2023 was a breakout year for Byline. Our performance, which Alberto and Tom will cover shortly, is excellent, and several important profitability metrics now rank in the top quartile of our peer group. Results and budgets for most banks in 2023 were derailed by the events of March and April, with earnings deviating materially from plans and Boards and management teams grasping for ways to justify weaker results on a relative basis. We are proud not to be part of that group and to be able to have delivered within estimates and plan. It took hard work. We believe the Chicago banking market will continue to be disrupted by events ranging from smaller banks getting weaker, mergers between larger banks with headquarters and decision-making moving outside of state, as well as management changes and turnover. That disruption fuels our organic growth and our strategy. Simply put, being home to the best commercial banking talent continues to shine under those conditions. This is easier said than done. When done well, however, from having the right credit and risk processes, using the right technology, focus and key people practices, and nurturing the team that can finish each other's sentences, the strategy is hard to replicate. We are optimistic about the future and the value our franchise can deliver to our shareholders. With that said, Alberto, back to you.

Excellent. Thank you, Roberto. Per our practice, I will start by walking you through the highlights for the full year and quarter. I will then pass the call over to Tom, who will provide you with more detail on our results. Following that, I'll come back to wrap up with some closing remarks before opening the call up for questions. Moving on to Slide 3 of the deck, and to start, before I turn to the highlights, I would first like to thank our employees for their hard work and contributions this past year. 2023 was another solid year for the company. We navigated through a challenging rate environment, the market disruptions stemming from the failure of several institutions earlier in the year and an economy that continues to surprise to the upside in terms of growth. Against that backdrop, our diversified business model and continued focus on executing our strategy served us well. In addition, we successfully closed the $1.2 billion merger with Inland, converted systems, and fully integrated the operation into Byline within the calendar year. All in all, 2023 was certainly a busy year. For the year, net income was $108 million or $2.67 per diluted share on revenue of just under $387 million. Adjusted for the effects of the merger, our return and profitability metrics were very strong with pretax preparation ROA of 235 basis points, ROA of 145 basis points and ROTCE of just under 18%. Year-on-year loan growth inclusive of Inland was strong at 23%, and better yet, all the growth was funded by deposits, which grew 26%. Our efficiency ratio improved by over 2 percentage points to 52.6% and 5 percentage points to under 50% on an adjusted basis. Lastly, capital remained strong with TCE ending the year at 9%, CET1 at 10.35%, and total capital at 13.4%. All of these ratios reflect increases on a year-over-year basis, notwithstanding the impact of the Inland transaction in the third quarter. Turning to Slide 4. Results were also strong for the quarter with net income of $29.6 million or $0.68 per diluted share on revenue of $101 million. Adjusted for merger-related charges, net income was $31.8 million or $0.73 per diluted share. Profitability and return metrics were also solid with record adjusted pretax preparation income of $50.2 million, pretax preparation ROA of 227 basis points, ROA of 144 basis points, and ROTCE at 18%. Revenue was slightly down from the previous quarter but up 20% year-on-year. The revenue decline was driven by lower net interest income due to a lower margin as expected, offset by higher noninterest income stemming from higher servicing income. From a balance sheet standpoint, we saw continued growth in both loans and deposits during the quarter. Loans increased by $81.7 million or 5% linked quarter annualized and stood at $6.7 billion as of quarter-end. Net of loan sales, origination activity moderated from the previous two quarters but remained healthy at $241 million, with the increase coming primarily from our C&I and leasing businesses. Payoff activity increased as anticipated and line utilization remained stable at around 55%. Our government-guaranteed lending business continued to originate at a healthy level with $135 million in closed loans, which, as expected, was higher than the previous quarter. Moving on to the liability side. Deposits grew by $223 million or 12.8% annualized and stood at $7.2 billion as of quarter-end. Noninterest-bearing deposits account for 27% of our deposit base, and overall deposit cost increases are starting to moderate. Tom will certainly provide you with additional color on the margin and our outlook given the market expectations for lower rates this year. Expenses remain a focus and were well managed for the quarter, coming in at $53.6 million. More broadly, we were able to drive down our efficiency ratio and bring our adjusted cost to asset ratio to 228 basis points. This represents a decline of 7 basis points linked quarter, and importantly, 43 basis points on a year-on-year basis. Turning to asset quality. Provision expense came in at $7.2 million lower than the prior quarter. Charge-offs were elevated at $12.2 million compared to last quarter, reflecting charge-offs taken against loans with previously established reserves as they near resolution and a charge on a purchase credit-deteriorated loan, subject to a credit mark. The allowance for credit losses stood at 152 basis points, NPLs increased 17 basis points to 96 basis points. We added additional detail to the NPL chart on Page 11 of the deck, so you can distinguish between the PCD and non-PCD trends in NPL. Lastly, front-end delinquencies remained flat, notwithstanding the impact of a mortgage servicing transfer completed at the end of the year. We also added additional disclosure on risk ratings, numbers of loans, and a balanced stratification for our office portfolio. You can find that on Page 17 of the deck in the appendix. We did not repurchase any shares during the quarter. However, our Board approved a new stock repurchase program that authorizes the company to repurchase up to 1.25 million shares of the company's outstanding common stock. The program is an important component of our overall capital management strategy, which includes investments in the business, M&A, share repurchases, as well as our regular quarterly dividend. With that, I'd like to turn over the call to Tom, who will provide you with more detail on our results. Tom?

Thank you, Alberto, and good morning, everyone. Starting with our loan and lease portfolio on Slide 5. Total loans and leases were $6.7 billion on December 31. The increase was across all lending categories with the strongest growth coming from our commercial and leasing teams. Average loan balances increased linked quarter and were higher by 23% on a year-over-year basis, driven by organic growth and the Inland merger. We expect loan growth over the course of 2024 to be in the low mid-single digits. Turning to Slide 6. Our government-guaranteed lending business finished the quarter with $135 million in closed loan commitments, which is up 19% and 12% on a linked quarter and a year-over-year basis. At December 31, the on-balance sheet SBA 7(a) exposure was relatively unchanged at $453 million. Our allowance for credit losses as a percentage of the unguaranteed loan balances was 7.8% as of quarter-end, lower as a result of loan upgrades, payoffs and charge-offs related to fully reserved loans, as Alberto mentioned. Turning to Slide 7. We continue to focus on deposit gathering. In the fourth quarter, total deposits increased to $7.2 billion, up 13% annualized from the end of the prior quarter. We saw robust organic deposit growth of $223 million in the quarter, which was net of a $69 million reduction in brokered CDs. Average deposit balances increased quarter-over-quarter and were slightly higher by 24% on a year-over-year basis, inclusive of Inland transaction. Excluding the transaction, deposit growth was a healthy 9.1% for the full year. Our deposit mix continues to moderate as expected with the decelerating pace linked quarter. DDAs as a percentage of total deposits was 27% compared to 28% from the prior quarter, and we expect the shift in mix to continue to moderate and stabilize during 2024. On a cycle-to-date basis, deposit betas for total deposits was 45% and interest-bearing deposits were 61%, driven in part by the repricing of our CD portfolio. In 2023, the CD average maturity rate was 2.32%. For 2024, we expect that CD repricing will have less of an impact given the average rate of the maturing CD book of 4.67%. Turning to Slide 8. Net interest income was $86.3 million for Q4 down 6.7% from the prior quarter. The decrease in NII was primarily due to higher interest expense on deposits and lower accretion income on acquired loans of $5.2 million, offset by loan growth. Our net interest margin remained strong at 4.08% on a reported basis, which was in-line with our NII guidance. Accretion income on acquired loans contributed 24 basis points to the margin in the fourth quarter compared to 50 basis points for the prior quarter. Earning asset yields decreased 26 basis points linked quarter, driven by lower accretion and an increase in fixed rate loans during the quarter. For 2023, net interest income was up $65 million or 25%, which translates to the NIM increasing by 31 basis points year-over-year and ending the full year at a strong 4.31%. Looking forward, given the forward rate curve forecast, we continue to make steps to reduce our asset sensitivity, as highlighted in the IRR section. Based on the factors previously discussed, our estimate for net interest income for Q1 is in the range of $83 million to $85 million. Turning to Slide 9. Noninterest income stood at $14.5 million in the fourth quarter, up 17% linked quarter, primarily driven by a $2.4 million improvement in our loan servicing asset valuation, reflecting lower discount rates and a $1.2 million gain in the change in fair value of equity securities. Sales of government-guaranteed loans decreased $13 million in the fourth quarter compared to Q3. The net average premium was 8.5% for Q4, slightly higher than the prior quarter, primarily due to more favorable market conditions and mix of loans sold. Our gain on sale income for Q1 is forecasted to be in the $4.5 million to $5 million range, in line with our historical trends of lower loan production in the first quarter. Turning to Slide 10. Our noninterest expense came in at $53.6 million for the fourth quarter, down $4.3 million from the prior quarter, primarily driven by merger-related expenses taken in Q3. On an adjusted basis, our noninterest expense stood at $50.6 million, $3 million below our Q4 guidance of $53 million to $55 million. We continue to manage our expenses tightly and prioritize investments that are more critical to achieving our strategic objectives. Looking forward, our noninterest expense full year guidance is unchanged at $53 million to $55 million per quarter. Turning to Slide 11. The allowance for credit losses at the end of Q4 was $101.7 million, down 4% from the prior-end quarter. In Q4, we recorded a $7 million provision for credit losses compared to a $9 million in Q3. Net charge-offs were $12.2 million in the fourth quarter compared to $5.4 million in the previous quarter. NPLs to total loans and leases increased to 96 basis points in Q4 from 79 basis points in Q3. NPA to total assets increased to 74 basis points in Q4 from 60 basis points in Q3, and total delinquencies were $36.1 million on December 31, essentially flat linked quarter. Turning to Slide 12, which recaps our strong liquidity and securities portfolio. Our loan-to-deposit ratio decreased 182 basis points linked quarter to 93.4%. We are pleased with this progress and continue to work towards bringing down this ratio over time. Our available borrowing capacity grew to $2.3 billion, and our uninsured deposit ratio stood at 26.7%, which remains below all peer bank averages. Notably, we have the highest insured deposits among the proxy peer group as a result of our very granular deposit base. Moving on to capital on Slide 13. Our capital levels at quarter-end improved with our TCE ratio at 9.1% and our CET ratio at 10.35%. Both ratios improved nicely over the quarter. We grew capital by 29% on a year-over-year basis and our tangible book value per share increased nicely by 11% in 2023 to $17.98, driven by our positive earnings. Given our strong balance sheet, liquidity and capital position, we believe we are well positioned to grow the business and capitalize on market opportunities throughout 2024. With that, Alberto, back to you.

Thank you, Tom. Moving on to Slide 14, I'd like to wrap up today with a few comments about the outlook and our strategic priorities for 2024. We entered 2024 on solid footing and with great momentum. In terms of our strategy and priorities, they don't change much and remain consistent from year to year. We believe we can grow our franchise and continue to create value for shareholders. We do this by growing and expanding customer relationships, pursuing disciplined loan growth, improving the efficiencies of the business to allow for continued reinvestment, maintaining credit and capitalizing on market opportunities to both add talent and pursue M&A. Again, we believe we are well positioned to capitalize on opportunities to continue to grow the value of our franchise. And with that, operator, let's open the call up for questions.

Thank you. Your first question comes from Nathan Race of Piper Sandler.

Yes. Hi, everyone. Good morning. I hope everyone is doing well.

Good morning.

I was hoping to just start off on the charge-offs this quarter. And looking through the slide deck, it looked like an office commercial real estate property contributed some of those charge-offs. So, I would be curious maybe to get some additional color from Mark in terms of the outlook for the remaining portfolio and kind of what you're seeing in terms of potential maturities? And how those maturities kind of stack up with cap rates going up and so forth, and just the overall asset quality outlook within that portfolio?

We have a good handle on the office maturities going out for the next two years, and we've been discussing it a lot right now what's coming up in the first two quarters of the year. We're in very good shape. We're actually seeing some opportunities for some of these customers to refinance their office buildings, which is a little bit of a surprise to me. But we're in good shape overall on the office book in terms of a percentage of our overall portfolio. So, there are going to be situations where some of them are going to be criticized assets. But as you know, they're unique, and we're going to approach them with a tailored kind of strategy with the customer to see what the outcomes are going to be of any credit issues that we see. On the charge-offs, yes, we had a charge-off on an office asset. But again, that's part of our strategy that we're using to resolve that particular asset, and we're hoping to achieve those results here during the course of 2024.

Okay. Very helpful. Thank you. Maybe changing gears, thinking about the NII outlook for this year. I apologize if you touched on it in your prepared remarks, Tom, and I didn't catch your thoughts. Just in terms of kind of the outlook for kind of core NII ex accretion over the next couple of quarters, assuming the Fed remains on pause, and then we get a couple of rate hikes in the back half of the year, how do you kind of see NII trending over the course of 2024?

Good morning, Nate. In the prepared remarks, we're using the forward curves to estimate interest rates, and the market is expecting a reduction of 150 basis points in Fed funds this year. Considering that, which I believe will start in March, we have guided for net interest income of $83 million to $85 million. Additionally, the supplemental materials include the accretion forecast for your reference, which we have separated out.

Okay. So if we do get that degree of rate cuts this year, it's fair to expect it would contract. But if we just get maybe a couple in the back half of the year, it's fair to assume maybe a little bit of growth year-over-year?

Yes, that could be possible, depending on the Fed's actions and market expectations. On the net interest income page of the deck, we provided information on our interest rate risk sensitivity over one year. We have reduced our sensitivity by 1.8% year-over-year, but we remain asset sensitive. You can see both in a ramp scenario and a static scenario what the impact on net interest income would be. With a 100 basis point decline, it’s about 3.3% in a ramp scenario, and 3.5% in a static scenario, while the ramp scenario shows a 2.5% decline. We also provided the quarterly costs on an annualized basis.

I think, Nate, to add to what Tom is saying there just more broadly, so I think if you look at kind of what the market has priced in terms of rate cuts for 2024. As you can see from the materials, we remain asset-sensitive. Certainly, as Tom covered in the prepared remarks, we're seeing moderation in terms of deposit pricing as well as moderation in kind of mix changes. Rate declines certainly will help in that regard. That being said, we remain asset-sensitive. So rate declines are going to impact the asset side negatively in the sense that you're going to be repricing assets, and that's going to have an impact, that's going to be faster than the reprice and liabilities. That being said, that assumes kind of the market view in terms of interest rates to the degree that rates move lower, faster or come earlier in the year faster that obviously impacts the margin negatively; to the degree that they're slower, it impacts the margin positively. But all in all, we still feel pretty good about our ability to grow assets and continue to expand net interest income.

Got it. And just within that kind of outlook, if the Fed remains on pause for the first half of this year and just kind of think about the cadence in loan yields from here, I imagine you guys have put in new loans on the portfolio above kind of the rate that we saw or the yield that we saw in the fourth quarter. And would just also be curious to hear in terms of those 40% of loans that are fixed, what amount of maturities do you have over the next 12 months that could reprice higher?

Well, I mean, you have to remember, if you're doing fixed rate loans, the market's already kind of priced in the Fed easing. So we price for market takers, so to speak. So we price to a spread to the curves. So in some cases, right, the punitive thing to net interest income right now is fixed rate loans because you tend to lose spread on a marginal cost basis, like if you were going to the home loan bank. So, I think that you have to be mindful of that, whether you do balance sheet hedges or other things to protect the earnings, you're technically layering on some fixed rate loans that they're in the 7.5% range that maybe on a floating rate basis would be higher just given the spread on SOFR.

Got you. If I could just ask one last one on just kind of the outlook for deposit growth. It looked like you had some nice core deposit generation in the fourth quarter. Is the expectation that core deposit growth will largely follow that kind of low to mid-single-digit outlook for loans in this year?

I’m not sure we’ve provided guidance specifically on deposits, but as you know, we consider deposits to be very important and are committed to growing them. This growth will depend on client preferences, customer needs, and competition. Overall, we aim to have strategies in place to enhance our deposits. In this quarter, as Tom noted, we experienced a favorable decline in our loan-to-deposit ratio, which we want to further improve. Previously, we were close to a 95% ratio and indicated our goal to reduce that over time. We would like to see it drop to around 90% or even below that in the future.

Got you. And was there any seasonality in the core deposit growth in the fourth quarter? Or was it more just kind of blocking and tackling and ongoing market share gains?

Blocking and tackling.

Yes. I think the latter. As you know, we tend to see seasonality. We have obviously a commercial focus in our business, inclusive in the liability side. So you have tax payments, you have all those things that tend to happen right around the first quarter. So, we'll see some seasonality there. But that was not the case at the end of the year.

Your next question comes from Terry McEvoy from Stephens Inc.

Hi. Good morning, everybody.

Good morning, Terry.

Hi. Just maybe start with a question on expenses. If you grow organically, let's say, 10% a year, you're going to cross $10 billion in less than two years. So I guess my question is how much of the incremental expenses from crossing $10 billion are in that current run rate of, what, $53 million to $55 million? And should I be worried about a step-up in 2025?

I would like to address your question in two ways. First, we have always managed the business with the expectation to align risk management, reporting, and controls with the growth of the company. This means we consistently invest to ensure we have the necessary controls and investments corresponding to our growth. So, just because we are approaching the $10 billion mark does not imply a drastic increase in expenses. However, as we see growth in assets and revenues, we can expect expenses to rise as well to meet the standards that come with reaching that milestone. We aim to continue monitoring our expenses and maintain discipline in our spending. As you may have noticed this quarter, we achieved a significant reduction in the cost-to-asset ratio, down to 228 basis points, a notable improvement from last year. We want to ensure we scale effectively, regardless of whether we cross the $10 billion threshold. I hope this clarifies our perspective on the matter.

Yeah. Thanks for the color there. Helpful. And then just kind of getting out of the earnings model, what's it going to take to get utilization rates back to pre-COVID levels, which kind of what 62%, 63%? And if we get back there, what does that mean to noninterest-bearing deposit balances? And is it that case where you got to watch what you wish for?

So, that's a really good question. The short answer is, Terry, we really don't know. You would have expected that you would have seen utilization revert back by now post COVID. I think there's a couple of things that are probably coming into play. We're a larger bank now. We're a little different than we were right before COVID, so maybe the mix that we have today is slightly different, which could be impacting kind of overall line utilization or call it, the line utilization percentage that we report. The second piece is, I'm a little skeptical of mean reversion going back to, call it, kind of 2019 levels from the fact that, given the discrepancy from borrowers with much higher interest rates today, if you were sitting on cash and you had the flexibility, you would probably just pay down the line or you would frankly move the money to a higher-yielding alternative. We've seen some of it, but we haven't seen that in mass in our book. So, I guess what you're hearing is, we're probably a little skeptical of that utilization rate, fully mean reverting back to what it was in 2019.

Our next question is from David Long from Raymond James. David, your line is now open. Please go ahead.

Thank you. Good morning, everyone.

Good morning, David.

I want to follow up on the deposit discussion. And as you look out for the rest of the year, if we do get some rate cuts, what do you expect out of the deposit beta on the downside at this point?

That's a good question. Currently, short-term rates are definitely higher, and we're experiencing an inverted yield curve from overnight to one year, where we were previously flat. We are starting to see some advantages from repricing our shorter-term CDs. Our CD portfolio has an average duration of about 8.5 months, which is relatively short. We have been working to lower our betas, and the CD portfolio will reprice at a reduction of about 85% to 90%. The core accounts will continue to perform as we have planned, and while some of our products have not seen movements in their rates, we anticipate significant reductions in the betas for our high-yield money market accounts.

Got it. Thank you, Tom. And then...

Yeah, I think, David, just to add two things to what Tom said, I think in Tom's remarks earlier, when you think about that CD book, the average rate on the maturities that we're seeing for 2024 was like 4.67%, I think. So just keep that in mind relative to kind of, as Tom said, if the duration of that portfolio is 8.5 months, and you have a rate at 4.67%, you kind of can see where market rates are. So that gives you a sense in terms of kind of what the reprice would be, all else being equal. If you have declines in rates, obviously, that's going to come into play, obviously, subject to competitive dynamics in the market and so forth. But I think to Tom's comments and the comments earlier in the call, I think the deposit pricing is starting to moderate. I think it will be rate-dependent. If we get rates declining faster, obviously, that's going to impact that more in a quicker fashion. If rates lag for a little bit, that's going to be slower. But on that end, to the degree that it's slower than what the market repricing, given our interest rate positioning at this point, that's probably to our benefit as opposed to our detriment. So just keep that in mind.

I would like to add that this quarter, we experienced a significant decrease in our FHLB borrowings and had a brokered CD mature, amounting to $384 million in wholesale pricing. This resulted in less cash available at the Fed. However, our liquidity remains very strong and is even improving, which will positively influence our NII numbers.

Got it. Okay. Cool. Thanks. And then wanted to talk M&A just for a second here. The Inland deal seems to have gone pretty well. Integration, mostly done with that. First question is, are you seeing a pickup in discussions or serious discussions? And then, secondly, what is Byline's appetite to do something else at this point?

Let me address the latter question first. Our interest in M&A is significant, and we are definitely open to exploring opportunities. Regarding the environment for M&A, while it hasn't completely returned to the conditions we saw 18 months ago, the situation has improved. The recent rise in interest rates towards the end of the year has alleviated some of the challenges that made M&A difficult for many institutions, such as the effects of AOCI and interest rate impacts on portfolios. This improvement suggests that M&A activities are becoming more feasible. We have established criteria for evaluating potential M&A opportunities and believe there will be ongoing consolidation in the market. We consider ourselves a strong partner for institutions seeking a long-term relationship, and we are optimistic about the potential for activity in 2024.

Your next question comes from Damon DelMonte from KBW.

Hey. Good morning, everyone. Most of my questions have been asked and answered, but just a couple of little ones here. Regarding the outlook for expenses here in the first quarter, I think the guide was $53 million to $55 million. Tom, can you just kind of help walk us from kind of the operating number of sub-$51 million up to that level? Does it come in through salaries and benefits, or is it data processing? Just kind of looking for some guidance there.

Some of it is definitely salaries and benefits. We've had some delays and some hires that we're still looking to seek out as well as some new teams to bring into the organization from a business perspective. The real estate numbers that came in were actually a little bit lower than what we originally accrued for, and so that won't materialize in 2024. So, we're trying to give full year guidance there. I think we would expect to be a little bit on the lower side, on the guidance side of $53 million, maybe for Q1. But absent that, we think just given the spend that we want to make to invest in the business and bring on teams, we're going to have to increase cost to do that.

Got it. Okay. All right. That's helpful. Thank you. And then as we think about the provision expense going forward and kind of like a normalized net charge-off level, I think you had like 38 basis points last quarter, and that's on the rise from the last two years, understandably. But do you think that high 30s, 40 basis point level is reasonable going forward?

I think we've always said, Damon, somewhere in the kind of the 30 to 40 basis point range historically, and I still think we're comfortable with that. Keep in mind a couple of things that maybe are a little different today than historically. We added some additional disclosure for PCD loans. I mean those are loans that, over time, you can expect us to try to move those out of the bank relatively quickly. We'll add to the degree that we take charges related to those. As you know, those are obviously subject to a credit mark. So, we'll disclose and give you color around that. But back to the first part of your question, in terms of kind of like the underlying rate, I still think that 30 to 40 basis points is reasonable.

Got it. Okay. And then just lastly, looking at the deposit base, do you have any deposits that are tied specifically to an index rate so that if and when the Fed does cut rates, you'll get some relief in that portion of the portfolio?

Yes. I mean some of the deposits we have that are like brokered money market accounts, they're tied to Fed funds, and they're on for our balance sheet hedge purposes. So, we'll see an immediate benefit from that. And then, there's a few clients that are more in the public entity space where we were tied more to an index there. So, we'll get definite relief immediately 100%.

Your next question is from Brian Martin from Janney Montgomery Scott.

Could you elaborate on what happens on the asset side with a rate cut? Is there an immediate effect or does it take time? Also, can you provide some specifics about the deposit side and how much of it changes immediately versus with a delay?

I would direct you to Slide 8, which outlines our interest rate risk profile. It details how we've decreased our asset sensitivity year over year and the impact of a static 100 basis point decline and a gradual 100 basis point decline. This includes our assumptions about the repricing of assets and liabilities. We are asset sensitive, and with a static 100 basis points, that amounts to $3 million for every 25 basis points, which represents the earnings loss.

On an annual basis.

So again, the timing is important. If the Fed eases in March, the SBA book will be repriced immediately in April. If they ease in May, that will occur in July. Timing is significant for both assets and liabilities. Based on the forward curves we are using for our rate forecast, we expect the numbers I shared with you regarding net interest income.

Okay.

But the book...

And how much of the loan book is variable? Go ahead. I'm sorry.

No, it's under 50%. We have 48% in fixed rate and then the combination of Prime and SOFR or the other parts. So it's kind of 50-50-ish. But again, you have investment portfolio, it's straight as well. So it's a little bit skewed, 60-40.

Yeah. And even when considering the fixed rate component, which is roughly around 48%, it's important to remember that many of those are commercial loans, which tend to have shorter durations compared to fixed rate mortgage loans. Typically, these loans have about a 3 to 3.5-year duration. This means that each year, approximately one-third of that component will be repriced. So just keep that in mind.

Yes, we'd say our loan base is about 52%.

Okay. I have a couple of questions regarding capital. You mentioned M&A, and I’d like to know your perspective on buybacks compared to M&A. It seems that M&A might be prioritized in the short term over buybacks, especially if things don’t go as planned with M&A. Secondly, could you elaborate on the characteristics of a target that you value in your M&A outlook?

In response to your first question, I want to emphasize that our approach to capital allocation is very consistent. Our primary priority is to support the growth of the business, ensuring we have sufficient capital for continued investment in various areas such as talent and infrastructure. Regarding dividends, mergers and acquisitions, and share buybacks, we are committed to maintaining our dividend. M&A opportunities depend on finding a counterparty that shares our vision and ensuring any transaction aligns strategically, culturally, and from a return perspective. If those criteria are met, it indicates that pursuing M&A is preferable. If we have excess capital with no better use, we can consider buybacks to return that capital to shareholders. As for targets, our current focus remains on the greater Chicago metropolitan market, which we estimate has a target market value between $250 million and $4 billion, translating to around 50 potential targets in that space. This continues to shape our target market.

Got you. Okay. That's helpful. And then maybe just one for Mark on the credit side. Can you comment, Mark, on any changes regarding the special mention credits and how they trended from the third to fourth quarter? Also, what areas are you paying closer attention to today, and what are some of the dynamics in the market from the last 90 days or so?

There was an increase in special mention credits, but we've also seen positive resolutions in that area. We continue to experience good resolutions, though we're also managing a number of PCD credits that have changed in rating. I anticipate that similar activity will occur this year, with variations in and out. Our strategic efforts regarding these credits, whether we choose to exit or upgrade them, will be crucial. I believe we can execute these strategies, as they are tailored to each specific deal. There is no observable trend indicating that a specific asset class is dominating the criticized book; issues arise across the commercial book, the SBA book, and various other asset classes, but no consistent trend is emerging. I'm not sure if that addressed your question, Brian, but that’s the current situation.

Yes, broadly, just the trend is what I'm trying to get my arms around. So they have ins and outs, helps. And just in terms of areas you're maybe watching more closely this year, at least in the near term, can you give any commentary on that?

I'm watching, obviously, like everybody else in this country, office carefully. Even though that's not a big part of our portfolio, we spent a lot of time looking at it, upcoming maturities, appraisal values and what our sponsors are saying about those assets. And then, the SBA book is still dealing with the higher rates that impacts their customers. And that is not going to ease up too quickly. So, we have to keep an eye on that portfolio also to see if these companies can continue to sustain their payments at those rates that they've had to deal with for the last 18 months.

Okay. Got you. That's helpful. And maybe just last big picture question for Alberto. Just Alberto, if you look at talking about last year being a breakout year for Byline, if you look at where you feel like the greatest opportunity for Byline is this year kind of given the market conditions today. Can you just speak broadly to that? Where you feel like you guys in your business model can really excel today? Is there any certain areas that you can be more opportunistic this year?

I think the short answer is yes. We remain very optimistic about our current market position in Chicago. For example, we discussed in previous calls how larger regional banks were hesitant to pursue new opportunities due to concerns about risk-weighted assets in light of potential regulatory changes. As a relationship-oriented bank, we strive to support our clients and lend throughout economic cycles. We found opportunities to do this, especially in the latter part of 2023, and we believe this will continue into 2024. Additionally, we benefit from market disruptions, allowing us to attract high-quality banking talent, and we expect to take advantage of these opportunities in 2024. Overall, we are optimistic about our growth potential and our ability to bring in new talent and clients.

Thank you for your questions today. I will now turn the call back over to Mr. Alberto Paracchini for any closing remarks.

Great. Thank you, Carla, and thank you all for joining the call today and for your interest in Byline. We look forward to speaking to you again next quarter. Before we leave, I want to let you know that Brooks will update you on our conference schedule for the first half of the year.

Thanks, Alberto. Yes, for investors this quarter, we plan on attending the KBW conference along with the Piper Sandler West Coast Conference. And with that, that concludes our call this morning. Hope everyone has a nice weekend. Goodbye.

This concludes today's call. Thank you all for your participation. You may now disconnect your lines.