Simmons First National Corp Q2 FY2022 Earnings Call

Good morning, and welcome to the Simmons First National Corporation Second Quarter 2022 Earnings Conference Call. All participants will be in listen-only mode. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Ed Bilek. Please go ahead.

Good morning and thank you for joining our second quarter earnings call. My name is Ed Bilek, Director of Investor Relations at Simmons First National Corporation. Joining me today are several members of our executive management team, led by our Chairman and CEO, George Makris. The purpose of our call is to discuss the information contained in our earnings release and investor presentation issued this morning and to discuss our outlook for the remainder of 2022. We have invited institutional investors and analysts from the equity firms that provide research on Simmons to participate in the Q&A session of today's call. All other guests on the call are in listen-only mode. A recording of today's call will be posted on our website, at simmonsbank.com, under the Investor Relations tab for at least sixty days. During today's call, we will make forward-looking statements about our future plans, goals, expectations, estimates, projections, and outlook. I'd remind you that you should not place undue reliance on any forward-looking statements as actual results might differ materially from those projected in or implied by the forward-looking statements due to a variety of factors. Additional information concerning some of these factors is contained in our SEC filings including, without limitation, the description of certain risk factors contained in our Form 10-K for the year ended December 31, 2021, and the forward-looking information section of our earnings release. Simmons assumes no obligation to update or revise any forward-looking statements or other information. Finally, during this call, we will discuss certain non-GAAP financial metrics we believe provide useful information to investors. Additional disclosures regarding non-GAAP metrics, including the reconciliations of these non-GAAP metrics to GAAP, are contained in our earnings release and investor presentation, which are included as exhibits to the Form 8-K we filed this morning with the SEC, and are available on the Investor Relations tab at simmonsbank.com. Operator, we are ready to begin the Q&A.

We will now begin the question-and-answer session. Our first question is from Brady Gailey with KBW. Please go ahead.

Hey, thanks. Good morning, guys.

Good morning, Brady.

I just wanted to start on loan growth. And even if you back out PPP and what you acquired, it was still a pretty good loan growth quarter. Maybe any commentary on what drove that, and kind of how you're thinking about the future related to loan growth? I think, in the past, you've talked about kind of high single-digit loan growth. You were above that on a core basis this quarter. So, any update there, any color on the growth you saw in 2Q?

Hey, Brady, this is Matt. I'll start with that. The second quarter was really the result of what we've been discussing for several quarters regarding building our pipeline and getting back into business, and it was a strong Q2. It was well-diversified, even when excluding Spirit, our acquisition in April, which also experienced positive loan growth. If we disregard Spirit, our portfolio is well-diversified across our community, metro, and corporate divisions. In terms of product types, we focused internally on a good mix of construction, stabilized commercial real estate, commercial and industrial, along with some consumer lending. We appreciated the diversifications we observed in Q2. Currently, we still have considerable momentum and a solid pipeline, but the interest rate environment is shifting. As shown on slide 13, our pipeline peaked at $3.4 billion before June 30, and as we finalize much of that business, we are beginning to see some of our pipeline decline due to our underwriting as we've adjusted some loan amounts. We're adopting a cautious approach to prepare for rising interest rates, so we need to resize some of those deals. Some clients are agreeing to those adjustments, while others are exploring competitive offers. Additionally, some borrowers who initially had an opportunity are now reconsidering because the economic landscape is changing. Therefore, we anticipate some pipeline decline, and while I don't expect to see the same loan growth in Q2, I believe we will maintain steady loan growth over the next two quarters.

And you meant loan growth at these levels in Q2, the loan growth.

That's right.

We'll have loan growth.

We'll have loan growth, but we might not see a Q2 that's a really banner Q2 for us.

Brady, just to remind everyone, there was a lot of noise in the quarter with the Spirit acquisition. If you look excluding Spirit, our legacy growth was up 7%, and on an annualized basis that's about 27%. We'll also remind you, last year we were de-risking the balance sheet to be able to put ourselves in this position to take advantage of some of this loan growth as we de-risked some of our commercial real estate last year, and some other non-relationship loans.

Yes, yes. And then moving on to the buyback, it was great to see you all reengage and have a pretty big buyback quarter, repurchasing about 1.6% of the company. I know you've been active the last couple of years. How are you thinking about the buyback going forward, just as we're potentially headed into a recession, but at the same time the stock is cheaper than I think you've repurchased historically? So, how do you think about the buyback going forward?

Well, good question. We're really in a spot where we would like to buy back a lot more. But like you said, the economy has some uncertainty going forward. We believe a good balanced approach at this is to return our current period earnings to our shareholders in the form of cash dividends and stock buybacks. So, we believe, in the near-term, that's what our focus will be on. That can change, but right now we believe you take the current period earnings less the cash dividends, and that's what we pretty much focus on for buyback in the current period.

And then the final one for me, discount accretion rose to about $10 million, which is understandable due to Spirit's inclusion. However, I know it's challenging to predict, but do you have any estimates on how your accretion will trend on a quarterly basis for the upcoming quarters?

Brady, I'll take that one. I would say first off, the quarter after an acquisition is usually the highest. You have some refinancing; you have some payoffs coming in; we really didn't have a lot of runoff at all with Spirit, but maintained and grew those balances. However, some of the loans that you acquire on day one do get refinanced, so we did have some of that in there. So, it's a little elevated in this quarter. Going into the balance of the year, I mean I'll just give you our budgeted estimate, it's probably about $6 million or so a quarter going for the balance of the year.

Okay. All right, great. Thanks for the color.

Thanks, Brady.

The next question is from David Feaster with Raymond James. Please go ahead.

Hey, good morning, everybody.

Morning, David.

Maybe just touching on deposits, keeping the organic deposits pretty stable this quarter is pretty impressive just given the environment. Could you walk us through some of the underlying trends that you're seeing with the deposit book and just how customer behaviors are, especially since quarter-end, just given the rate environment and prospects for more hikes? How do you expect deposits to trend going forward? Would you expect some outflows as you defend your deposit base, and just any commentary on deposit costs, migration within your portfolio, and any other trends you're seeing?

David, this is Jay. I'll start with that. Others may have some comments as well. The first thing I want to point you to is just the success we've had in retention of deposits with the Spirit acquisition. If you look at the deposits that we acquired on April 8 and our deposit balances at those same Spirit locations on June 30, they're essentially flat. Our retention levels have been even better than we modeled them to. We expected them to be very good, but that's clearly aiding in the numbers that you're seeing. Stepping away from just the acquisition element of that, the rates are moving up faster than any other expected to. We are seeing behavior in our markets, in certain communities where the competition is beginning to move up rates. So, we're playing defense right now where we have to with customers in that regard. I think that will mean that they just begin to increase. I'm very pleased that our overall deposit costs were only up four basis points in Q2 compared to Q1, and that'll be tough to maintain for us and the rest of the industry here, especially if we get another 75 basis point rate hike next week. So, again, we're being very strategic around that. We're looking at our deposits by market, and we'll continue to be competitive and defend the market share that we have.

Okay, that's helpful. Then maybe just switching gears a bit to asset quality. You've seen continued improvement in overall credit, and that's a testament to the de-risking that you all have taken. Maybe just at a high level though, just curious, your thoughts on the credit environment from your standpoint, and even the pulse of your clients, as you look out, are there any segments that you're more cautious on or seeing early signs of concern that you might be avoiding? At a high level, have we changed any underwriting standards? I know you guys are always tight, but just curious, any thoughts on asset quality and your approach to credit and underwriting standards?

Hey, sure, David. This is Matt. I'll start with that. We're staying true to what we do with conservative underwriting. What I would tell you, kind of what we're seeing is we have taken an approach over a month ago around really re-looking at where we're underwriting on just a core loan sizing. So, for new business today, we're doing 6.5% to make sure we can build in the cushion. This has definitely changed the economics of, not a certain category, but all opportunities. Some are still working very well. But I will tell you at a macro level, with the cap rate staying low, we're still in a scenario where deals are trying to get done, but the economics just aren't working like they should, and so there's fallout that we're seeing in our pipeline. We're also seeing really good clients just back away from opportunities, but we're staying true to our principles. Sometimes, we may lose an opportunity because of what it needs the loan size at, and the market may take it. We're seeing definitely that the market is taking it as others may be taking a little more optimistic view on future rate movements.

Got it.

Hey, David, this is George. Let me mention one other thing too, and you probably noticed in our presentation that we still have very healthy levels of reserves for certain commercial real estate industry classes. That was very appropriate during COVID, probably not quite as appropriate today. You'll probably see us change our focus from industry to more loan-specific. Our analysts are currently going through and stressing the loans that are on our book. We're very comfortable with our level of reserves, which we believe is on the high side of the industry today, which is sort of typical of Simmons' conservative outlook. Our asset quality actually improved, and I will tell you what we put on the books from Spirit of Texas was good asset quality. No real problems that we've uncovered there. So, we're starting from a good point, and our reserve level is very nice right now. You probably saw that our reserves to nonperforming loans is 330%. We've discussed internally, several years ago, that benchmark was sort of a 150%. So, we feel very good about the way we have managed our protection in case of an economic downturn. This time, we're going to be more focused on loan-by-loan, and not so much category-by-category.

Got you.

David, one other point, just as a reminder, with this acquisition of Spirit this quarter, we booked the double count under CECL. We put some $28 million discount on the loan side, and then $33 million related to both allowance and the unfunded commitment that we booked. This is in line with our projections as we went in. So, nothing unusual that we bumped those up or some issues that we saw. We're pleased with the adjustment. If you look at one of the slides in there, we compare all of our acquisition assumptions to what we see this quarter, all of it is very favorable for the quarter.

That's great. Yes, no, you are absolutely right. And then, maybe just one last one, just kind of shifting back to the growth outlook. You guys have had a lot of success on the hiring front. It looks like we had a couple of hires. Just curious your appetite for hires, where you are maybe most focused on adding to the team? Just where are we in the contribution from? We had a nice team last year. Just curious how that commercial finance lending team is doing?

Yes, I'll begin with that. We are actively searching for new talent. Considering our size, reach, and capabilities as a bank, we are definitely looking to add new contributors. The commercial financing we saw in the second quarter, particularly our core growth in commercial and industrial sectors, largely came from that group. They are performing well, integrating into our system, and starting to achieve the results we expected. We believe this trend will continue for the rest of the year and into the future. Regarding new hires in the second quarter, we welcomed a strong leadership team in the commercial sector based in St. Louis. We also had significant additions in Nashville with some valuable contributors. Furthermore, we've concentrated on expanding our community banking efforts in metro markets, focusing on business bankers and BDOs. We experienced great success in Q2 with talented new hires and internal promotions. We are exploring new opportunities throughout our footprint, particularly in the mortgage sector, where we see potential to attract skilled producers, especially those who might be operating independently. Our sustainability allows us to onboard new quality originators. Specifically, we aim to expand the Spirit, Texas footprint, which has a strong team. With our capabilities in Houston, San Antonio, and Austin, we are focusing on growth in these key areas alongside existing teams. George may have additional insights on this.

I think that's right. David, potential exists all across our footprint. We talk about that every time we acquire a bank; those banks do not have the breadth of products and services that we have. It’s going to be a multi-year opportunity for us to continue building out wealth, credit card, and agri lending. We just believe that time is going to take care of that. We have certainly not been disappointed in our ability to attract great talent with our diversified set of products and services. Many of these bankers are coming to us because they were restricted in their ability to take care of their customers' needs, and that's not the case here.

Thanks, everybody.

Thanks, David. Thank you.

The next question is from Matt Olney with Stephens. Please go ahead.

Hi. Thanks. Good morning, guys.

Good morning.

I will take the expense question. I think we are now at $137 million of adjusted expenses in 2Q. And I am guessing there are some more cost savings but perhaps some reinvestments. So, what's the outlook on expenses from here?

Hey, Matt, it's Jay. You're right. There are some savings. I want to remind you that we conduct a simultaneous close and convert. Compared to many other transactions you might be looking at, we can significantly advance the timeline for achieving some of those cost savings. In the quarter, when you examine our adjusted expense figures, there's a foundation donation included, which we noted in the slides as $1.6 million. Keep that figure in mind as you assess the expense run rate. Another significant factor is that in this quarter, due to an acquisition, we have some non-retained salaries that will affect Q2 but will not have much impact in Q3 and beyond. So, there are some cost savings, and I believe there’s potential for improvement in the run rate number you’re seeing. The only challenge I'd like to highlight is the need for reinvestment. We're always doing that, but wage and inflation pressures remain substantial. I think we’ve done a commendable job over the past year in addressing these issues, and we are still achieving some success, but it's clear that the pressure continues.

Okay, perfect. That's helpful. Shifting to funding and liquidity, it looks like the assets have now come down quite a bit, and we are getting pretty close to 2019 levels. Any more room to move that down? Are we kind of where we need to be? Thinking about funding the loan growth in the back half of the year, do you think we will see the security portfolio move lower or just deposits move higher? Just how are you thinking about funding the back half of the year’s loan growth? Thanks.

I believe it's a mix of various factors. First, Matt, we're aiming for cash levels, specifically in the range of $500 million to $700 million, which gives us some room compared to our current position. We currently hold over a billion dollars in floating rate securities within our portfolio but are not heavily investing in that area at the moment. Our preference is to invest in loans. Given the success we've experienced in loan growth this quarter, we plan to allocate liquidity towards that. I anticipate continued success on the deposit front, as we are very focused in that area. As I mentioned before, while we can take a defensive stance when needed, we are also prepared to be proactive. There's a significant opportunity for us to increase our deposit market share by focusing on community by community growth. Therefore, I believe we have several liquidity strategies available to support our growth initiatives.

Okay, that's great. I also want to ask just more generally about SBA. I think legacy Simmons had a nice little SBA unit. The Spirit deal also came with an SBA team as well. I’d love to hear more about how you are operating that and what you're seeing in the market. We're just hearing data points of margin coming a little tight in SBA. Just love to hear what you are seeing out there. Thanks.

Sure, Matt. This is Matt. I appreciate that Spirit team; it really helped us double down and invest in our existing SBA team to build it out quickly versus a two-year plan. With their bankers and their back office, we were able to push forward. I will say as it relates to SBA at Simmons, we pushed through our SBA unit the $1.3 billion in loans and PPP that was their focus for two years. Now in the second quarter, we have decent production in loan growth in SBA, but now with Spirit integrated fully, we feel like SBA is back to a normal $100 million a year production going forward. The last two years were really PPP.

Yes, and I will just chime in with one other comment on that too, Matt. All the SBA production we are doing in footprint is customer-driven. It's not any kind of nationwide lending effort. It’s core to who we are and our customers. We have the ability to balance sheet those where the margins may not make sense to sell them for gain or international margin. Those are solid, in footprint quality loans that we can balance sheet as well.

Okay, great. I also want to ask about overdraft in SFBs. We've seen a number of your peers announce changes in pricing over the last few months. Just remind us where we are as far as pricing for Simmons on those products? Any updates or anything on the way there?

Well, Matt, this is Bob. We haven't announced any decisions yet, we continue to look at it. As of today, I don't think we're out of market. We do think with the changes, there will probably be some changes prior towards the end of this year. We haven't set a time yet, but we continue to look at what our current trends and best practices are. There will be changes, but I don't think they will be materially off the charts, but it will have some impact.

Okay, as far as the timeline, Bob, you mentioned towards year-end. We'll hear more about that. Is that right?

Yes, I would expect by year-end. It could be Q3 or Q4.

We're taking a look at all the elements of our deposit pricing, including overdrafts, non-sufficient funds, and related items. What we’re going to end up with is something that's very justifiable from a cost perspective and a benefit to the consumer. I think the industry has moved towards seeing what the market is doing. Our analysis is more about long-term cost-benefit, so that when we settle on these, we can justify them in the marketplace.

Yes, okay. Okay, guys, just one more question for George. Last time on the call, we talked about M&A, and you sort of talked down M&A potential for this year. Are there any changes in your M&A appetite at this point?

Matt, there has not been. In addition to having such a long runway ahead of us from an organic perspective, market uncertainty just makes any of those discussions theoretical. I will tell you, we are having no substantial conversations about M&A at all right now.

Okay, guys, thanks again.

The next question is from Gary Tenner with D.A. Davidson. Please go ahead.

Thanks, good morning. I just wanted to ask about the increase in your accretion assumptions around Spirit. Is that really driven by the difference in the rate environment since announcement or any other notable changes in your expectations there?

Yes, it's pretty much related to the rate when we did our initial assumptions last November, where the tenure was at that point. You see where it is, obviously at April 8. I guess the negative adjustment to the discount from the interest rate portion related to the credit was lower than we had projected originally. So, netwise, it was still a ballpark range of where we expected. As you know, it’s really a timing difference; whether you get it on day one or later.

All right, thank you. Other questions were mostly answered. But just on the service charge question a moment ago and surcharges came up, less than I would have thought from Spirit. Were there any kind of temporary waivers or anything related to the service charge line that was a headwind for the quarter or was that a fully loaded quarter?

I wouldn't say that there were waivers. What I would tell you is we delayed moving Spirit to the Simmons pricing structure, which is typical in most of our acquisitions until our customers get used to Simmons and we get used to them. There’s usually a delay in integrating those two cost structures. That being said, Spirits consumer base where a lot of those fees are generated wasn't nearly as big as Simmons. So, even if we put them on our pricing structure, it wouldn’t have made much of a difference.

The next question is from Stephen Scouten with Sandler O'Neill. Please go ahead.

Hey, good morning, everyone. I wanted to dig back into loan growth real quickly just wondering if you could bring up maybe some bands of what you think could be the potential growth over the next couple quarters? I know, Matt, you said not as strong as this quarter, but this quarter was phenomenal at 27% last linked quarter annualized. So, are we talking back to a mid single-digit kind of run rate expectation? Or is it now a double-digit sort of number, given what you've seen in growth in the pipeline?

Stephen, in all candor, that's hard to say right now. I think it could easily trend back to a high single digit, but we could also be in mid double-digits. Just this current environment, and what we're seeing in the pipeline with real opportunities that are falling out a lot of times above the bar. It’s just hard to say, but do we have built-in loan growth through unfunded commitments, construction, and what I know in our core community market is going to happen? Yes, that's going to be there. But to hit on all cylinders, that's just hard to predict right now in this kind of rate environment.

Okay, that's fair. Thinking about your asset sensitivity, what you saw in the quarter on the deposit side seems like it outperformed what you would have modeled, which is great. Can you provide any color in terms of what's embedded in those expectations in terms of maybe loan betas or deposit betas and how you're tracking relative to that?

Yes, I mentioned a couple of things there, Stephen. We're through, as of June 30, all the 5% of our floors in the loan portfolio. Assuming we get a rate hike next week, I think we'll be through over 99% of those floors. When you think about loan betas going forward, I think they're going to be very high, given a lot of the comments Matt has made. Our ability to flex that pricing muscle on new originations is better than it was earlier in the year when a lot of folks were still willing to buy down on the yield side. Our rate sensitivity on the yield side will be good going forward and present a lot of opportunity for us. You're correct that on the deposit beta side that has exceeded any and all of our expectations, at least the expectations we modeled to because we model those fairly conservatively. With the pace of rate increases, I think we'll see betas move up going forward in a noticeable manner.

Got it, okay, very helpful.

Stephen, going back to loans, I did want to point out one item related to loan growth. If you look at the period-end numbers we’re at $14.5 billion; I'm sorry, the period was $15.1 billion. The average balance was $14.5 billion. You're going to see some of that benefit hit in Q3 as some of that growth came toward the end of the quarter. So, just keep that in mind as well.

Got it, yes. Okay, thanks Bob. Lastly, maybe just one thing for me on net charge-off expectations. You guys have a range that you think about for maybe a longer-term net charge-off percentage that you would expect. I know there’s been some lumpiness through the years, but this quarter was phenomenal, and all the credit metrics continue to improve. I would think that would be lower than what we’ve seen in the past, and I’m just wondering how you're thinking about that?

Stephen, really the only thing I can point to with our expectations is our budget and our appointments. We generally use 20 basis points on an annual basis as the benchmark to earn incentive. Historically, Simmons would like but in certain market conditions, it would be acceptable. All of our bankers, all of our management, are focused on that charge-off number. That is our internal expectation and we put money behind those expectations.

Yes, yes, that frames it up very well. I appreciate that, George. Thanks for your commentary, guys. Congrats on seeing all that growth and the work paying off this quarter. Good to see.

Thanks, Stephen.

Thank you.

This concludes our question-and-answer session. I would like to turn the conference back over to George Makris for any closing remarks.

Well, thanks very much for joining us today. I want to take this opportunity to reflect for just a minute on the past several years and how they relate to our current market position. As you all know, we had an objective to gain access to growth markets while maintaining and growing our emphasis on community banking. I would say that I believe we've achieved our original purpose. If we take a look at our footprint today, the potential for organic revenue growth in all of our business lines is a great multi-year opportunity. I think we've invested ahead of the industry in several key areas. Our development of our digital bank has garnered national recognition as a market leader. We will continue to invest in deepening our relationships in our markets and growing our share for all the products and services we offer. We're committed to supporting the communities we serve, evidenced by the results of our community development programs and our philanthropic efforts. Our brand value has been greatly enhanced. We are fortunate to have a contingent of ambassadors, including PGA star Will Zalatoris and our affiliation with women's athletics at 10 major universities. Our footprint features cutting-edge sponsorships with long-term value. Our performance this quarter is reflective of the potential we have created over the past several years and bodes well for the future as we continue to build a better bank. Thanks again to all of you for your support. Have a great night.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.