First Internet Bancorp Q3 FY2022 Earnings Call

Good day, everyone, and welcome to the First Internet Bancorp Earnings Conference Call for the Third Quarter of 2022. My name is Drew and I’ll be coordinating your call today. Please note that today’s event is being recorded. I would now like to turn the conference over to Larry Clark from Financial Profiles, Inc. Please go ahead, Mr. Clark.

Thank you, Drew. Good day, everyone, and thank you for joining us to discuss First Internet Bancorp’s financial results for the third quarter of 2022. The company issued its earnings press release yesterday afternoon and is available on the company’s website at www.firstinternetbancorp.com. In addition, the company has included a slide presentation that you can refer to during the call. You can also access these slides on the website. Joining us today from the management team are Chairman and CEO, David Becker; and Executive Vice President and CFO, Ken Lovik. David will provide an overview and Ken will discuss the financial results. Then we’ll open the call to your questions. Before we begin, I’d like to remind you that this conference call contains forward-looking statements regarding the future performance and financial condition of First Internet Bancorp that involve risks and uncertainties. Various factors could cause actual results to differ materially from any future results expressed or implied by such forward-looking statements. These factors are discussed in the company’s SEC filings, which are available on the company’s website. The company disclaims any obligation to update any forward-looking statements made during the call. Additionally, management may refer to non-GAAP measures, which are intended to supplement, but not substitute for, the most directly comparable GAAP measures. The press release available on the website contains the financial and other quantitative information to be discussed today, as well as a reconciliation of the GAAP to non-GAAP measures. At this time, I’d like to turn the call over to David.

Thank you, Larry. Good afternoon, everyone, and thanks for joining us today. For the third quarter 2022, we reported net income of $8.4 million and earnings per share of $0.89. Excluding non-reoccurring expenses, adjusted net income for the third quarter was $8.5 million and adjusted diluted earnings per share were $0.90. Adjusted for the non-reoccurring item, we produced a return on average assets of 0.83% for the third quarter and a return on tangible common equity of 9.24%. As a fellow shareholder of First Internet Bancorp, I am disappointed in these results. I would like to use this opportunity to speak openly about what went well in the third quarter, where we were challenged, and what to expect from us in future periods. To begin, capital levels continued to remain strong. Ending the quarter with a tangible common equity ratio of 8.36% leaves us very well-positioned going forward. Additionally, through repurchase activity during the third quarter, we were able to offset the effect of AOCI and maintain a consistent tangible book value per share, which many other banks have not been able to do in the current environment. Loan production was one of the highlights of the quarter. Total loan balances increased $174 million. This is nearly a 6% growth from the prior quarter, putting our loan balances at an all-time high of almost $3.3 billion. Loan originations for the quarter, including unfunded commitments, were $491.3 million, representing a 47% increase in origination volume compared to the second quarter. New funded originations totaled $272.5 million, up 9% from our volumes in the prior quarter. Our construction lending team had a tremendous quarter, sourcing almost $190 million in new originations. While very little of this new production funded during the quarter, we expect to draw down over the next 12 to 18 months, and the vast majority is variable rate. At the end of the third quarter, unfunded commitments in construction lending totaled $367 million, up over 74% compared to June 30, 2022, which positions us well to add variable rate assets in the fourth quarter and throughout 2023. Our small business lending team continued its strong performance in the third quarter with origination volume up 51% over the second quarter. The team at First Internet Bank finished the SBA fiscal year as the 27th most active 7(a) lender out of a field of over 1,600 lenders. As the second half of the year is seasonally stronger for small business lending, our pipeline is continuing to grow, and we expect originations to increase in the fourth quarter. We anticipate total originations for the year to align with our revised expectations in the range of $165 million. However, we have seen lower gain on sale premiums in the second and third quarters of 2022 compared to the previous two years. There are several reasons for this. First, government programs that temporarily increased guarantees from 75% to 90% have expired. Loans with 90% guarantees have consistently fetched higher gains on sale than those with 75%. Additionally, rising rates have increased prepayment expectations, driving secondary market prices lower. With lower expectations on premiums, we forecast SBA gain on sale revenue to be in the range of $10.5 million to $11 million for the year. Our partnership with ApplePie Capital, a fintech-oriented specialty lender that focuses on lending to the franchise industry, was another standout performer in the second quarter. Together, we are providing credit to proven entrepreneurs throughout the country. We funded over $60 million of franchise loans priced north of 6% during the quarter, and now we hold $225 million in this portfolio. Overall, our commercial loan businesses are performing extremely well. Additionally, we also continue to win new business in our consumer lending lines. In our horse trailer, recreational vehicles, and other consumer loan portfolios, we originated over $40 million of new loans at yields north of 6%. The limiting factor here has been inventory of new models, which are like passenger vehicles challenged by the current chip shortages. As you have come to expect from us, ongoing strong credit quality was a key contributor to our third quarter performance. Our total non-performing assets remained low at 14 basis points of total assets, net charge-offs to average loans were just 2 basis points, and delinquencies 30 days or more were just 6 basis points of total loans, consistent with the prior quarter. Understanding that we are in an uncertain economic environment, we continue to review our loan portfolios for any areas of potential weakness. While we are diligent and thorough in our review, we take comfort in the fact that we have never wavered from our consistent underwriting standards, no matter where we may find ourselves in the credit cycle. As a result, our credit quality has remained strong over the long term, and we expect that trend to continue. Turning to where we saw the most disruption during the third quarter, our earnings were impacted by higher funding costs. In our forecast for 2022, we had anticipated rising rates. We have shared with you the strategies we've undertaken over the past several years to better position our balance sheet for a rising rate environment. One initiative was to enhance the composition of our deposits, moving towards non-maturity deposits. We have been winning small business and commercial checking account relationships throughout 2022. Account volume is up by about 10%. Total deposits made up 15% of our overall deposits as of September 30, compared to just 8% when we entered the last rising rate cycle. As we look at savings balances, we do see a trend where consumers and business owners are withdrawing some of their savings after building up account balances during the pandemic. Average savings balances are down slightly on a year-to-date basis. Additionally, the competitive environment has made it challenging to grow deposits. As reported by the Wall Street Journal in mid-September, there was a record outflow of $370 billion in deposits for the banking system in the second quarter, the first decline since 2018. This intensified the competition for deposits in the third quarter. We have seen an escalation in rates offered by digital banks, local banks in our market, and in the banking-as-a-service and wholesale deposit markets. First Internet Bank does not offer teaser rates or other incentives to new customers that are not available to existing customers, and we have not negotiated rates with individual customers. We believe openness, transparency, and fair pricing for all is key to maintaining strong relationships and a loyal customer base. As a result of acute deposit competition, our cost of interest-bearing deposits increased 56 basis points from the second quarter to 1.41%, an increase in earning asset yields of 26 basis points, so it’s a partial offset. Our fully taxable equivalent net interest margin for the third quarter was 2.53%, down 21 basis points from the second quarter. We believe deposit rates will continue to increase through the fourth quarter as the September CPI report leads us to conclude that the Fed will continue on its path to a target Fed funds rate of 4.50 to 4.75% in an effort to curb inflation. Throughout 2022, we have increased rates on new loan originations. We will apply even more pricing discipline in the fourth quarter to mitigate the pressure on our net interest margin. Our third quarter funded loan origination yields were up 52 basis points from the second quarter and on a year-to-date basis, are up 87 basis points higher than they were for the same period in 2021, setting the stage for higher average loan yields in future periods. The other area where we believe we can meaningfully improve our results is through banking-as-a-service partnerships. We have entered into a partnership with the established platform Treasury Prime, which has placed numerous fintech relationships across its network of 15 financial institutions. We are currently working through the implementation and expect to onboard our first relationship in early 2023. We are discussing both deposit programs with attractive funding costs as well as payment programs, which would be accretive to non-interest income. Additionally, we are in a pilot phase with a vast platform and program manager called Increase. We will be working through the balance of the year to get three programs from pilot to full production. This partnership is expected to drive primarily non-interest income payment programs with significant upside potential. One of the opportunities that we are currently piloting has a projected $1 billion in payment volume over the next 12 months. We expect to announce more on this relationship during our next earnings call. We have carefully curated a pipeline of a dozen or so additional opportunities, including only those that closely align with our high standards for compliance and risk management. We have explored a lot of options over the past two years, but we have a robust pipeline of high-quality deposit, payment, and lending opportunities. As we work through the pilot stage and move Increase into full production, we expect the throughput of that pipeline to increase exponentially in the coming quarters. Wrapping up my remarks from the quarter, we were disappointed in the net interest income and net interest margin performance, but we are very pleased with the growth of our construction lending business and the strides we are making in SBA lending, both of which will add asset sensitivity to our loan portfolio going forward. Credit quality remained strong and our capital ratios provide the flexibility to support the balance sheet as well as allocate capital to continue share repurchases when we believe there is a valuation disconnect in our stock price. To that end, I am pleased to announce that our Board of Directors has approved an extension to the current authorized program, including an additional $5 million of repurchase authority. As I outlined above, we have some very exciting initiatives underway with our fintech and banking-as-a-service partnerships that should provide long-term scalable growth in revenue and lower cost deposits. While there may be some short-term volatility in earnings until rates stabilize, we believe the strategies and projects we are working on today will provide a much more resilient balance sheet and earnings profile over the long term. Before I turn it over to Ken, I would like to thank the entire First Internet team for their dedication to our customers and our success on behalf of investors. We excel because of innovation and collaboration, and our workplace culture celebrates, develops, and promotes the people who embody these strengths. That’s why we were named once again one of the Best Banks to Work For by American Banker for the ninth year in a row. Our team’s talent and commitment to constant improvement give me great confidence in the future of First Internet and our long runway of opportunities ahead as a premier technology-forward, growth-oriented digital financial services provider. With that, I’d like to turn it over to Ken to discuss our financial results for the quarter.

Thanks, David. If we move to Slide 4 on the presentation, total loans at the end of the third quarter were $3.3 billion, up 5.6% from the second quarter and up 10.9% from September 30 of 2021. We are pleased with the growth in franchise finance, small business lending, and consumer loans, as well as the strong origination activity in our construction business. We also saw a growth in our single-tenant lease financing portfolio as the team had another nice quarter of originations. This activity was offset by the continued decrease in healthcare finance, which has been running off for several quarters now and will continue to do so. Moving on to deposits on Slide 5. Overall deposit balances were up modestly from the end of the second quarter, both non-maturity deposits and CDs declined, offset by an increase in brokered deposits. The decline in non-maturity deposits was primarily due to lower BaaS deposits at quarter-end, and the decline in CDs reflects our continued strategy to avoid the price competition in the CD market, which is even more intense than for money market balances. Price competition in the digital checking and money market space combined with the secular trend of overall deposits leaving the banking system has made it challenging to grow deposits. Furthermore, as you can see on the deposit table in the earnings release, we experienced a significant decline in BaaS deposits. We expected some volatility in these deposits, as we noted last quarter, the fintech space has been experiencing some upheaval. We are seeing a rational return in focus to long-term viability and profitability as opposed to simply customer or revenue growth. While we applaud the common-sense approach, changes at two fintechs in particular this quarter impacted our pipeline. In the first case, the pace of withdrawals in an existing fintech deposit relationship increased dramatically throughout the quarter. As a result, we had to access the wholesale deposit and funding markets to supplement our own deposit generation efforts. We expect further decline in this relationship in the fourth quarter. Another fintech opportunity that was looking like a done deal dissipated entirely. However, our pipeline of fintech opportunities continues to build, and we are confident the programs we have in pilot now will be in full production in the fourth quarter. As David noted earlier, the cost of interest-bearing deposits increased 56 basis points. Competitive factors drove deposit betas far above those experienced during the second quarter. In both the digital bank and small business markets, we saw peer betas ranging from 75% to 115%. While we were by no means a price leader in these spaces, we had to increase pricing to maintain balances. Including the Fed rate increase in late September, our current pricing on money market products results in a cycle-to-date beta of about 60%. In terms of how this pricing impacted results, actual price increases beyond expected deposit betas impacted the third quarter’s deposit costs by 10 basis points and the fully taxable equivalent net interest margin by seven basis points. Furthermore, the incremental effect of higher pricing in the wholesale funding market affected deposit costs by four basis points and the fully taxable equivalent net interest margin by three basis points. While BaaS deposits declined from one quarter-end to the next, the overall average balance was up from the second quarter. Since pricing on BaaS deposits is tied to Fed funds, the increase in the cost of these deposits also contributed to overall higher deposit costs. Turning to Slides 6 and 7, net interest income for the quarter was $24 million and $25.3 million on a fully taxable equivalent basis, both down around 6.5% from the second quarter. The yield on average interest-earning assets increased to 3.91% from 3.65% in the second quarter, primarily due to a 22 basis point increase in the yield earned on securities and a 167 basis point increase in the yield earned on other assets. The reported yield on average loans was up two basis points from the second quarter. The increase in new origination yields experienced during the quarter was offset by several factors. Over 50% of loan balances funded during the quarter occurred in September. Average balances in certain higher-yielding portfolios were lower than expected, loan growth composition, and prepayment fees declining by almost $800,000. While we did not expect those to remain elevated given the interest rate environment, actual fees came in well below expectations. Another factor impacting loan portfolio yields is the fixed rate nature of certain larger portfolios and the lagging impact of the higher origination yields on the portfolio, which are expected to increase over time. In total, we estimate that these factors impacted the total loan yield for the quarter by about 14 basis points and the fully taxable equivalent net interest margin by 11 basis points. As David noted, we recorded a net interest margin of 2.40% in the third quarter, a decrease of 20 basis points from the second quarter, and a fully taxable equivalent net interest margin was down 21 basis points to 2.53% for the quarter. The net interest margin roll forward on Slide 7 highlights the pressure we experienced on both sides of the balance sheet. The positive impact from the loan portfolio, which came in below expectations, was not nearly enough to offset the effect of increased price competition and higher pricing in the wholesale funding markets. As demonstrated on the graph on Slide 7, the impact of deposits leaving the banking system and the effect on price competition and wholesale deposit costs drove our monthly deposit costs higher throughout the quarter. As for top-line interest income for the fourth quarter and into 2023, we feel confident that the combination of new loan originations priced at higher levels, variable rate assets repricing higher, and draws on the significantly increased construction commitments will drive strong growth in total interest income. Currently, we expect the yield on the loan portfolio to increase around 40 basis points to 45 basis points for the fourth quarter, with loan interest income up in the range of 16% to 17% compared to the third quarter. On the funding side, with higher forward rate expectations based on the Federal Reserve’s aggressive language regarding rates and inflation, we do expect deposit costs to increase as well. The pace of increases will depend heavily on price competition and the magnitude of Fed rate increases throughout the quarter. Across various scenarios, we expect the cost of deposit funding to increase anywhere from 75 basis points to 95 basis points, with total interest expense up in the range of 50% to 60%. In terms of what effect this has on our fully taxable equivalent net interest margin, we expect a continued rise in deposit costs to compress margins further anywhere from 35 basis points in a more aggressive rate scenario to 25 basis points in a less competitive environment. Moving to non-interest income on Slide 8, non-interest income for the quarter was $4.3 million, consistent with the second quarter. Gains on the sale of loans totaled $2.7 million for the quarter, up 800,000 and consisted entirely of gains on the sales of U.S. Small Business Administration’s 7(a) guaranteed loans, which activity and market premium commentary were covered earlier. Mortgage banking revenues were down this quarter due to a decrease in interest rate locks and sold loan volume, as well as gain on sale margins, again driven by the higher rate environment and its impact on both the purchase and refinance markets. As far as expectations for the fourth quarter, we expect non-interest income to increase as gains from the sale of SBA loans should be comparable to the third quarter results, and other income will benefit from planned distributions related to fund investments. The near-term outlook for mortgages remains challenging, but our team has been exploring new channels to increase origination activity that should help to maintain revenue consistent with the third quarter. Moving to Slide 9, non-interest expense for the third quarter was $18 million, consistent with the second quarter. Salaries and employee benefits and consulting and professional fees declined from the linked quarter, while loan expenses and premises and equipment costs were higher. The lower salaries and employee benefits expense was due mainly to non-recurring items incurred in the second quarter, partially offset by increased headcount and higher incentive compensation in small business and construction lending. The decrease in consulting and professional fees was due to seasonality around the timing of third-party loan review and stress testing. The increase in loan expenses was driven primarily by fees associated with growth in our franchise finance portfolio. The increase in premises and equipment costs was impacted by a non-recurring $125,000 write-down on a software license we discontinued. Now, let’s turn to asset quality on Slide 10. Credit quality remains excellent as non-performing loans and nonperforming asset ratios remain extremely low. Net charge-offs of $179,000 were recognized during the third quarter, resulting in net charge-offs to average loans of two basis points, but the provision for loan losses in the third quarter was $892,000 compared to $1.2 million for the second quarter. The linked quarter change was driven primarily by reductions in specific reserves related to positive developments on certain monitored loans, partially offset by growth in the loan portfolio. The allowance for loan losses increased $713,000 or 2.4% to $29.9 million as of September 30, and the ratio of the allowance to total loans decreased three basis points to 0.92%. The decline in the coverage ratio was driven by changes in portfolio composition and reflects growth in certain portfolios with lower coverage ratios, as well as the continued decline in healthcare finance balances, which have a higher coverage ratio. With respect to capital as shown on Slide 11, our overall capital levels at both the company and the bank remain strong. Our tangible common equity to tangible assets ratio was 8.36%, down from the second quarter due primarily to the increase in accumulated other comprehensive loss. While many banks continued to experience a decline in tangible book value per share, ours remain stable during the third quarter at $38.34 per share. During the third quarter, we repurchased 120,000 shares of our common stock at an average price of $36.56 per share as part of our authorized stock repurchase program. Including shares repurchased during the fourth quarter of 2021, we have now repurchased $25.1 million of stock under the total upsized authorization of $35 million. With capital ratios as strong as they are, it provides the flexibility to support balance sheet initiatives while also allowing us to remain active in the market for our stock, supporting our shareholders when the price does not reflect our franchise value. With that, I will turn it back to the operator so we can take your questions.

Thank you. Our first question today is from George Sutton from Craig-Hallum. Your line is now open.

Thank you, guys. Thanks for all the detail provided. I really have one key question that’s related to the BaaS deposits. We anticipated with these relationships that the rates would be relatively low to non-existent and they moved very quickly this quarter, and you mentioned they were tied to the Fed funds rate. Could you just walk through that specific dynamic a bit more?

Well, what we’ve seen in the BaaS space is an increase in pricing as well, and that specific opportunity we had was in partnership with another bank working with the fintech directly. In all honesty, the partnership there was with a fintech depository that had a constantly changing business model, and with the increase in market rates throughout the year, the program bank we worked with had to change pricing accordingly to move towards a market rate. So that’s what impacted the pricing there. I will say, in some of the other opportunities with the platform partners we’re working with, those deposit opportunities are priced much lower than this particular opportunity. So, our expectation on deposit opportunities in the BaaS space and with fintech partners going forward will be priced at a lower level than what we witnessed with this specific partnership.

In the fintech space, George, the only deposits today that we’re seeing, at least at this current point, that are totally free are the settlement accounts for the payment services, which can be hundreds of thousands of dollars, potentially approaching a million on large payment servicers. However, the fintech world, obviously, is scrambling for earnings; they need to make money, and they understand there is value in that deposit base. Six months ago, they were free. Today, they have a charge, as Ken said, not all of them are at the Fed funds rate, but the idea of fintech providing billions of dollars of free money is really not out there today. They need to show a path to profitability to continue to get funding, and some of that comes, obviously, in selling off the cash. We’re still seeing very good opportunities at much lower costs than the Fed funds rate, but they’re not entirely free like they were two or three years ago.

Understood. Thanks for the clarity.

Appreciate it. Thanks, sir.

Our next question today comes from Michael Perito from KBW. Your line is now open.

Hey, guys. Good afternoon. I guess just maybe a big-picture question; with the stock where it is today? Where do you guys see yourselves proceeding from here? I mean, it doesn’t seem like it pays to grow the consumer books and fund with higher cost money market deposits, you mentioned the buyback, and it seems like that’s in play here, but just would love a comment overall about how you’re thinking about what the priority should be as you budget for next year, just given this quarter and perhaps a slower rollout here on the BaaS side, at least from a lower-cost funding perspective.

Yes, Michael. We pulled back where we’re pricing any loans we’re doing today on a 4% cost of funds, which we’re not even close to that yet, but with the anticipation of the Fed pushing through to 4.50% to 4.75% early in 2023, we’re going to be there by the end of the year depending on how long they hold that rate in place. So, we’re not focused on growth; we’re focused on solid margins. We’re concentrating on variable rate products, replacing some of the fixed-term things rolling off. Our portfolios are large enough, and the repayment structure allows us to fund a lot of the new loan activity with cash coming back that was in the 4%, 5% range now rolling out the door in a 6%, 7%, 8% range. You’re spot on; we’ve done a lot of calculations for 2023, but we’re not anticipating much growth of any kind until rates stabilize and we get a handle on where the marketplace is going. It’s showing a little bit of good indication with the 10-year starting to rise, maybe the market is sensing that things are stabilizing a little bit, but with an inverted yield curve when a lot of our products are priced off 10 years, it doesn’t make sense. We’ve literally shut down a couple of segments entirely due to competitive pricing.

Thanks, David. And then on the margin, it sounds like you guys are drifting down to where you were at the beginning of 2021. Obviously there’s some range on that, but what about after that? I realize that’s a loaded tough question, but with the Fed on the trajectory it is, is this a net interest margin with this balance sheet likely to head down towards two? I heard what David’s saying about maintaining a good margin, but it’s a challenging curve for your current book business.

I think that’s an accurate observation. I think between this quarter, the third quarter, the fourth quarter, and probably into the first quarter a bit, we will feel the biggest impact of these rate increases. If you think about it, we’re modeling towards the Fed heading to 4.75%, and if you assume we get a 75 basis point rate hike in a couple of weeks and perhaps anywhere from 25 to 75 basis points on top of that, we are feeling the full effect already. We will see deposit costs continue to trend upward; as David said, on the loan side, it’s about measured loan growth priced very rationally at the higher end.

Again, Michael, the key here is how we manage deposits going forward. If the Fed stops at 4.70% or 4.50% to 4.75%, we will see almost overnight stabilization from our end, and we will revisit what lending opportunities are at that point. This will particularly improve if we can get out of the inverted curve.

Got it. Thanks for spending a minute on that. And then just lastly for me to kind of pull this all together, I mean, you’re at a little over $4.2 billion today on total assets. Is it fair to think that this probably does not grow much as long as this margin dynamic is ongoing? Call it into the early part of next year, that the balance sheet size likely doesn’t change much? Is that a fair assumption?

Yes, I think so, Michael. If anything, it might shrink a little bit. We’re not going to pursue growth for the sake of growth by any means.

Okay. Thank you, guys. Appreciate you taking my question.

Thank you.

All right. Thanks, Mike.

Our next question today comes from Nathan Race from Piper Sandler. Please go ahead.

Yes. Hi guys. Good afternoon. I appreciate you taking the question.

Hey, Nate.

Hey, Nate.

Just kind of drill into the balance sheet and loan growth outlook. It sounds like you guys are going to be much more selective in terms of what you guys add to the balance sheet going forward. I was wondering if you could help frame that up, rethinking kind of low-single-digit or mid-single-digit loan growth from here. Any parameters around how you’re thinking about the loan growth opportunities in the context of the rate environment and what you guys are having to do on the deposit pricing side of things?

From the loan perspective, a lot of it is really just repositioning the loan book and letting some of the lower-yielding assets roll off. We expect SBA to perform well in the fourth quarter; the guaranteed or the unguaranteed balances we retain will be priced after another rate hike, and those are going to have a nine in front of them. Our construction balances, as we discussed, had a great year, so there will be a lot of draw activity over the next 12 to 18 months. And those rates, with another rate hike, will also be priced at prime plus or a similar spread, resulting in an 8% or 9% yield. It’s really just a matter of repositioning the balance sheet; it could be a little bit of growth. However, we are allowing some of the lower-yielding portfolios to mature so we can replace them with higher-yielding originations.

If the Fed stops at 4.70% or 4.50 to 4.75%, we will see almost overnight stabilization on the deposit side from our end. We will revisit lending opportunities at that point, especially if the tenure starts to climb, and we get out of the inverted curve. Our opportunities will change tremendously. Part of our fear is that the Fed hasn’t had tremendous success shutting down or lowering the CPI. If 4.50 to 4.75% doesn’t work, and God forbid they decide to push it up into the 5% range, we don’t want to be hung out to dry by engaging in a lot of activity. We are cautious on the adjustable rate loans due to the Fed’s activity, so we’re taking a wait-and-see approach.

Got it. Super helpful. And perhaps kind of within that context, any thoughts on the expense run rate given the margin environment we find ourselves in today? What is your timing for additional investment into the fourth quarter and into 2023?

Yes. I think if you look at what we had for the fourth quarter, you can probably run a rate that may add high single-digit growth, ramping up over the year. A lot of our costs do not fully reflect true inflationary costs yet. We’ve been talking about adding to our staff and strengthening our small business lending. There have been increased hiring in risk management to help with the BaaS side and fintech initiatives; we have bolstered some groups around the bank. Some head count increases are necessary and inflationary effects will be present, but we will do our best to keep overall costs within double-digit increases for next year.

Carrying that one step further, the growth in staff numbers is settling down. We are getting a robust SBA team with good capacity and opportunities. We’ve repositioned some employees internally in growth areas like compliance. One significant cost we will incur is the increased salary adjustments; we’re likely looking at an increase between 6% to 7%, which will be more impactful compared to previous years. But with the fight for quality employees on a national basis, we need to remain competitive in salary offerings.

Got it. Very helpful. I appreciate you taking the questions.

Thank you, Nate.

Our next question today comes from Brett Rabatin from Hovde Group. Your line is now open.

Hey, guys, good afternoon.

Hey, Brett.

Hey, Brett.

Why don’t you just go back to the fintechs for a second? Starting with Treasury Prime, as I understand it’s more of middleware and ledger that integrates fintechs into the core and allows the bank to hold a single account for each fintech client instead of plugging the fintech directly into the core. Can you explain a bit more about the scope of the opportunity related to Treasury Prime and then these others you’re looking at, including what size range we might be talking about, relative to current costs associated with fintechs?

Yes. You nailed it, Brett. Treasury Prime is the long-term seasoned veteran in that third-party integration. The fintech connects to them, and they provide a single source connection for us, minimizing overhead on our side. The returns are much higher compared to going direct. They have established a tremendous reputation and are working with larger fintechs that may have outgrown the capacities of their prior partners. We’ve been discussing with them for months, and we are now technically linked with Treasury Prime. We’re finishing the testing phase, and they have a queue of substantial fintechs needing a banking partner, making us one of the 15 banks involved with them. They provide a broader range of services and the best deals in the industry. Increase, on the other side, is relatively new, but the gentleman managing it has an impressive background from a large fintech company. The next wave of fintechs is emerging, and we anticipate strong opportunities from both platforms moving forward.

That's really helpful. Regarding the loan production and franchise finance portfolio originations, could you walk through how much of that was in construction, and is that segment going to be a primary part of growth in the coming quarters?

Yes, the $190 million you referenced was the amount of unfunded originations. A considerable portion was related to our construction team. That’s a significant part of our unfunded commitments, which currently total roughly $365 million. We expect significant draw activity in construction lending over the next 12 to 18 months, predominantly with variable rate pricing that yields higher in this rate environment. Although we cannot always predict draws quarterly, we anticipate strong activity throughout the year.

Lastly, regarding expenses, are your compliance and back office fully set for the fintech platform, or will there be additional hiring needed?

At this point, we have established our compliance team, especially as we just completed a safety and soundness exam, and we passed with flying colors. The team is already in place, but if we secure bigger fintech partnerships, we may need to add personnel, but the structure for our current pipeline is strong and sufficient.

Okay, great. I appreciate the information, guys.

Thank you, sir.

Thanks, Brett.

We lastly have a follow-up question from Michael Perito from KBW. Your line is now open.

Hey, guys. Yes, thanks. I just wanted to confirm; you mentioned that you are running around 10.5% tax rate this quarter, and that’s probably down to 10% to 11% over the next several quarters?

Yes, that’s correct.

Great. Thanks, guys.

Thanks, Mike.

There are no further questions at this time. I’ll hand you back over to David Becker for closing remarks.

Thank you, Drew. This is a very historic rising rate environment. We are using all the discipline and tools at our disposal to preserve earnings. We remain intently focused on driving higher levels of return for our shareholders. We appreciate your time and conversation today. Thank you for joining us.

That does conclude today’s call. You may now disconnect your line.