Simmons First National Corp Q2 FY2023 Earnings Call

Good day, and welcome to the Simmons First National Corporation Second Quarter 2023 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 welcome to Simmons First National Corporation Second Quarter 2023 Earnings Call. Joining me today are several members of our Executive Management Team, including our Executive Chairman, George Makris; CEO, Bob Fehlman; and President and CFO, Jay Brogdon. Before we begin the Q&A, I would like to remind you that our second quarter earnings materials, including the release and presentation deck, are available on our website at simmonsbank.com under the Investor Relations tab. During today's call, we will make forward-looking statements about our future plans, goals, expectations, estimates, projections and outlook, including, among others, our outlook regarding future economic conditions, interest rates, lending and deposit activity, credit quality, liquidity, and net interest margin. These statements involve risks and uncertainties, and you should, therefore, not place undue reliance on any forward-looking statement as actual results could differ materially from those expressed 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 earnings release and investor presentation furnished with our Form 8-K today, our most recent Form 10-Q and our Form 10-K for the year ended December 31, 2022, including the risk factors contained in that Form 10-K. These forward-looking statements speak only as of the date they are made, and Simmons assumes no obligation to update or revise any forward-looking statements or other information. Finally, in this presentation, 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 also available on the Investor Relations page of our website, simmonsbank.com. Operator, we are ready to begin the Q&A.

We'll now begin the question-and-answer session. The first question comes from Brady Gailey with KBW. Please go ahead.

Hey, thanks. Good morning, guys.

Good morning.

I wanted to start with the net interest margin, which took a step down here, which is kind of in line with what we're seeing from a lot of your peers. How do you think about the net interest margin as we look towards the back half of this year?

So Brady, this is Jay. I'll jump in on that with a few initial comments to your question. The biggest driver to margin and kind of the trend there so far has really been more around migration within the deposit portfolio than it has been around rate, if you will. And we've seen in June, in the back half of the quarter here and really kind of holding our head so far into July sort of a slowing down of that migration. And so I think that sort of encourages me as I think about NIM and inflection in NIM looking forward. I'll tell you this: June NIM, the pace of the pressure on NIM was quite a bit lower in June than it has been really in any of the earlier months of the first half of the year this year. So that, too, is kind of holding its head a bit here in July. So I think there's still some near-term pressure in Q3. The significance of that pressure is not nearly as significant as it has been in the first half of the year. That might mean an inflection in the back half of the year more like in Q4. And then keep in mind, too, that in Q4 you also have the benefit of the swap that will kick in in late September. So I'll have to say, Q3 is likely to have a little bit of pressure from what we see in Q2. Q4, hopefully, we see that inflecting at some point even in the underlying trends. And then you have the benefit of the swap as well on top of that.

And Brady, I'd just add too, obviously, all banks have experienced a pretty big increase in the cost of deposits. One of the things we're not afraid of is defending our market share in a lot of our markets where we have a very good market presence, and we don't want to give up that market share in those deposits. So we're willing to defend those and pay up for some of those. And we did that in this quarter in some select markets where it was really critical.

All right. And then you guys have made some good progress in taking some expenses out of your infrastructure. I know you're targeting a reduction of $15 million by the end of the year, which I think you guys will hit. Once you get beyond that, are you happy with the expense base? Or do you think you'll continue to look for opportunities to become more efficient?

Yes, we will certainly continue to seek opportunities in that area. In fact, I am confident there are additional opportunities available. We will approach this with the same careful and deliberate mindset as we did with the initial phase of the Better Bank Initiative. We discussed it over several quarters to ensure we were well-prepared with the cost-saving estimates. We will adopt the same approach if we pursue another round. Looking ahead to next year, I believe there will be some incremental opportunities for expense reduction, as well as potential investment opportunities. We will be strategic in making those investments wherever they are warranted and where we identify potential. More information will follow as we finalize our analysis of these opportunities, and I am optimistic about discussing the figures.

All right. And then finally for me, you repurchased about 1% of the company in the second quarter. Is there any reason to think that would slow? Or do you think that you'll continue to consider the buyback in the back half of the year?

Brady, we took advantage of favorable pricing for our bank stocks early in the quarter when most banks were close to their tangible book values, which was beneficial for our buyback at that time. We repurchased $20 million worth of stocks this quarter. We will evaluate this on a quarterly basis depending on market conditions and our capital needs. The only limitation is that any stock buyback would remain within our earnings minus our cash dividends, as this would be the maximum we would consider. We believe this approach is prudent given our balance sheet and projected growth.

Okay, great. Thanks, guys.

Your next question comes from David Feaster with Raymond James. Please go ahead.

Hey, good morning, everybody.

Good morning, David.

Good morning, David.

Maybe just touching on the loan yield side, just the loan growth side. And look, it's nice to see the growth. Obviously, construction fundings have been a key driver of it. When we look at the pipeline slowing as we would expect. But I mean you're really doing a great job pushing new loan yields. I'm just curious, could you touch on from your perspective, what are you hearing from your clients? How is demand trending across your footprint? And maybe just where are you still able to get good risk-adjusted returns at this point? And just what's your appetite for loan growth?

Yes. David, you raised several questions, so let me address various aspects of that topic. I believe, as I've mentioned in previous calls and meetings, that the current rate environment has led to a significant drop in demand, and we are still observing this trend. Our pricing discipline is consistent across the board, and our underwriting remains strong throughout the entire cycle. When we combine our underwriting and pricing standards, the volume coming into our pipeline consists of solid relationship-oriented business with reliable borrowers and well-structured deals, which aligns with our current appetite. In the second quarter, particularly in the last month or two, we have noticed a potentially positive sign regarding pipeline trends. Although we've forecasted a decline in pipeline trends that we expect to stabilize, some of our strong relationships are showing a willingness to invest more cash and equity into their projects. This increase in equity, alongside our strong underwriting and pricing, suggests a scarcity of financing options available. We will remain opportunistic while nurturing our close relationships. Overall, I still anticipate a slight slowdown in loan growth, yet still maintain steady growth. Paydowns are likely to remain low, and I don’t foresee that changing. We expect continued good performance with our unfunded commitments in the coming quarters. While the pipeline may stabilize at its current level, we hope to identify further good opportunities with quality borrowers.

Are there any markets or segments where maybe you're seeing more opportunity and that you think you can gain share just because you are open for business still?

There isn't anything particularly noteworthy that stands out to mention. We experienced balanced growth this quarter across different areas, and I believe that will remain our approach moving forward. One segment I want to highlight where we are experiencing considerable momentum is in agriculture. We've observed significant growth and opportunities there, and we have strong talent and a long history in that sector. However, it's not a large portion of our overall business. That is the main area I want to emphasize. Overall, our focus remains on maintaining a diversified approach across the entire portfolio.

And you mentioned in the presentation that we're expecting fee revenue growth to slow. I know this has been a big push for you all for some time, and it's great to see growth you've generated in part from this Better Bank Initiative. I'm just curious maybe some of the trends you're seeing in the underlying big businesses? Where do you see opportunity on the fee side going forward, cross-selling across business lines and across the franchise? And just any other thoughts on the fee revenue side?

Yes. Well, I will say in the lines of business that we think about out there, whether it's wealth, mortgage, et cetera, I think there's still a lot of opportunity for us. I was pleased to see an uptick this quarter on the revenue side from mortgage with recent rates. That's probably going to be a little more of a challenge in Q3, but I think we'll still continue to do well there. We've got a lot of opportunities to grow in both of those areas, in particular, just by continuing to better penetrate some of the markets that we've acquired into over the past several years. And so that's certainly a current and intermediate-term objective and opportunity for us. I think where we continue to really evaluate the fee side is just overall kind of banking services, deposit charges, et cetera, where the market environment continues to get increasingly competitive in a lot of different ways. And so that's something that we'll continue to evaluate and ensure to Bob's earlier point that we're going to protect and defend in our markets and especially in markets where we have great market share. And so that's the work that we're doing now.

Got it. That's helpful. Thanks, everybody.

Thanks, David.

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

Hey, thanks. Good morning, everybody.

Good morning, Matt.

I want to go back to the funding strategy that was discussed and I appreciate Jay's commentary about deposit migration trends stabilized in recent weeks. Any more color on just the funding strategy that you executed in the second quarter? It looks like you leaned a little more heavily on the borrowings in the first part of the quarter. Would love to just appreciate the strategy as you move into the back half of the year in any kind of changes. And then second part of that is, with Bob's comments about, if any market share in certain cases, should we read into that, that the deposit beta there going to be moving higher in the third quarter as compared to 2Q? Thanks.

Thanks, Matt. Well, I'd say that first and foremost, just on the funding strategy side, really throughout the quarter, I think we were just opportunistic where we needed anything, whether it was anything in the wholesale markets. There were a lot of ebbs and flows, especially coming out of timelines back in March and the things that happened there within our industry, where we were able to just be opportunistic. That meant at times leaning more into borrowings versus brokered CDs. So I think we'll continue to just kind of evaluate those markets as we need to rely on them. Generally speaking, I think the strategy going forward, as we've talked about, is more along those lines of balance sheet optimization and needing to rely less on that type of funding. And that should bear out as growth slows here a little bit. We went from double-digit loan growth for the last several quarters to still good single-digit growth here. But I think we're getting back to a place where sort of our inherent balance sheet cash flows can hopefully fund the majority of our loan growth and therefore, lean less into any type of wholesale borrowing. So that would be the bigger part of, I think, the strategy going forward. The one maybe nuance or two in there this quarter, we coming out of March and the early quarter, we definitely kept a little bit higher cash balances early in the quarter than what was necessary. You might even think back to sort of debt ceiling talks that were going on in the quarter. So there were some things about the macro environment in Q2 that we felt it was just prudent to take a pretty cautious tone around liquidity and what we were keeping on the balance sheet. So those were maybe just again, some nuances for the quarter to think about.

And just following up on that, Jay, any comments or thoughts on betas in the third quarter as it relates to what we saw in 2Q?

Yes, I apologize for missing that part of your question. Regarding deposit betas, similar to my remarks on overall net interest margin, we have not seen betas stabilize yet. There remains significant pressure from the competitive landscape on deposits, which will likely continue to influence betas. However, I believe that the primary factor behind the beta movements has been volume rather than rates, largely due to the fluctuations in lower-cost deposits. While I think it’s too early to determine a full trend based on just a few weeks, I remain optimistic about what we are observing and hearing from others in the industry. If the volume or migration aspect does indeed slow down, there will still be ongoing pressure on both net interest margin and deposit betas, which are interrelated. Nonetheless, I sense that the intensity of this trend seems to be diminishing.

And Matt, just one other thing I would point out on NIM is we did have our subordinated debt that repriced from fixed to floating in the quarter. That was a couple of million dollar negative impact to our net interest income. That's a one-time reset there. It may go up a little bit with the next move, but not at the same level it did in this quarter. That's a good call out.

If I remember correctly, I think 2Q got the full impact of that reset.

Yes, every bit of it…

Okay. Perfect. And then, I guess, switching over to the loan repricing opportunities. I think that your deck called out a little over $1 billion of principal maturities over the next year at a lower rate. I would love to know just general thoughts about the repricing opportunities within that? And kind of what the directives are to your production staff about where you're targeting some of those repricing levels?

Yes. The trends in our pipeline indicate that we expect repricing to occur during renewals, and potentially at even higher rates as our pipeline has developed over time with increasing rates. The current pricing in that pipeline exceeds the overall pipeline average. Therefore, we see substantial renewal opportunities in the $1 billion to $1.1 billion mentioned in the presentation. Additionally, we are focused on strengthening relationships during these renewal opportunities. We aim to integrate operating accounts or increase deposits and fees, which relates to an earlier question. Given the limited credit availability in the market, we are looking to fully leverage this situation to enhance and expand our relationships beyond just pricing and loan yields. We believe there are many additional opportunities at every renewal date.

Okay. I appreciate that. And then, I guess, just lastly for me, I think the construction loan balances continue to migrate higher. I think you disclosed you're at 99% on the C&D kind of threshold measurements. We'd love just to appreciate kind of thoughts around those levels, and could that act as a governor on the buyback? Or would you be willing to move over that 100% guideline for a quarter or two? Just any kind of thoughts on that level?

Yes, Matt, I'll jump in on that one, too. It's certainly not our strategy to operate above 100% for sustained periods of time. At the same time, we've got a lot of expertise in those areas of production and within our business. We're not afraid to go over 100% for a period of time. But I don't think you'd see us just sort of sustained operating above those levels. It's really just going to be a function of time, stabilization rate on those projects, et cetera.

Okay. Thanks for taking my questions, guys.

Thanks, Matt.

Thank you, Matt.

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

Thanks. Good morning guys. A couple of follow-up questions. I guess on the deposit side, unless I missed it in the deck, and I apologize if I did, but could you give us the June 30 interest-bearing spot rate just as sort of a jumping-off point into the third quarter?

I don't think we've got that in there. Yes, I don't have that right off hand here, Gary. I'll get back to you with that.

All right. And then in terms of the commentary about the service charges, I don't recall you all making announcements about reductions in service charges or anything along those lines. And I know last quarter, you guided to fee income in the 43 to 45 range, which you were at the top end this quarter. Does that range still hold even with some pressure on service charges? Or is there a larger delta there potentially?

Well, I'll just start off on the service charges on all of our service charges, whether it's on deposits, whether it's in wealth or investments, we continue to look at that every quarter to see where we are in the market and where we need to adjust for profitability. We talked about our service charges in Q4 of last year and still have not made any changes. We still evaluate it on a month-by-month basis. So don't have any plans to announce today. But on a go-forward basis, Jay, you may want to comment on the overall because we did have a couple of adjustments this quarter.

Well, I think you're right. We've commented historically that low to mid-40s is kind of where we expect overall fees to be on a quarterly run rate. We've been at the top end of that range, really kind of exceeded that range in my mind for a couple of quarters in a row here. That's consisted in the last couple of quarters of some fair value adjustments and a legal reserve reversal last quarter, et cetera. So I still think that low to mid-40s range is a good range for us here. Depending on actions that we might need to take from a competitive dynamic point of view on the deposit service side, might put me more toward the bottom, the middle of that range, whereas we've been hitting the top end of that range for a couple of quarters here.

Okay. I just want to make sure I didn't miss any announcements about reductions in deposit service charge side. So I appreciate the color. And then the discount accretion for the quarter or the purchase accounting adjustments for the quarter, could you give us what that number was?

I think we have that in here.

It's on page 17.

About $3 million for the quarter, with a little over $17 million left.

I want to confirm that I understand the change compared to the first quarter accurately. Additionally, regarding the fair value hedges on the securities portfolio, we've seen a rise this week, making them even more favorable. You previously mentioned the possibility of unwinding part or all of these, which was also noted in the presentation slides. What are your overall thoughts on this? Is the plan to maintain them, or how are you assessing the situation?

Well, we continue to evaluate those hedges as well as any other opportunities, hedging rates candidly in either direction. So that's just a continuous exercise for us. I don't think there's anything in sort of what I would call immediate plans to unwind that hedge right now. But it is absolutely something that we'll continue to monitor. And to your point, we would expect those to be further in the money even as soon as tomorrow.

Alright. Thanks, guys. Appreciate it.

Thank you.

This concludes the remarks. There's one more question here. Stephen Scouten from Piper Sandler, please go ahead.

Good morning. I appreciate it. I was wondering about the progress of the $15 million. How much of that is already included in the annualized expense savings? Or will the $15 million be additional to our current levels?

No, Stephen, I still think we made significant progress this quarter. I believe that while we may not have fully achieved any of our initiatives within the quarter, we will certainly reap the full benefits of some of those initiatives in the third quarter. There are additional efforts underway that will provide partial benefits now and complete benefits in Q4. I expect we will continue to make progress toward our goals. The guidance we provided indicates that we aim to fully achieve that target net in Q4, and maintain that momentum as we enter next year. I remain confident in our ability to meet that target and even hope to exceed it slightly as we close out this year. As previously mentioned on the call, we anticipate more opportunities ahead, but we also recognize there will be chances to invest in areas such as talent acquisition, which can further strengthen our business and growth prospects. We will take a balanced approach regarding our cost-saving expectations beyond the initial $15 million and keep you updated on our progress as we move forward.

Okay. Great. That's really good. And then just last thing for me. I'm curious how you think about kind of average earning asset growth from here. It sounds like working down some of the borrowings and maybe loan growth in the low mid-single digits. If I heard your answer to Brady's question appropriately, maybe a couple more basis points of NIM compression in the third quarter. So just how do you think about the direction of the balance sheet and average earning assets? And with that compression on the NIM, what do you think the path is for overall NII dollars for the rest of this year?

Yes. Well, I think that speaking to the growth piece of it, Stephen, as we've said now for several quarters, the strategy more than anything is balance sheet optimization. So it's remixing the earning assets kind of day in and day out, every month, every quarter that we move through. We're having success with that. I think we continue to have success with that as we move forward. Certainly expect to be able to rely less kind of on wholesale funding as that continues as well. And that should be pretty attractive for us from a NIM point of view as we kind of move out from there. Absolute dollars on NII, I don't have a great guide for you there that I want to be that specific with. But I think that as we remix the balance sheet, you think about earning asset mix, kind of risk-weighted asset density, I think there's a good opportunity for us to grow NII as we move forward.

Got it. Thanks, Jay. I appreciate the time, guys.

Thank you.

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

Thank you very much and I appreciate all of you joining us today. I think what you are seeing from Simmons is what you should have expected based on the history of our company, and that is conservative, diverse markets, product, and risk profile. And that's playing out well in today's market. We're certainly committed to our community banking philosophy and relationship banking. And fortunately for us in some of the markets that we entered through acquisition, that customer base is starting to really understand who Simmons is and what our philosophy is and the meaning of relationship banking. I think our pause in M&A to our Better Bank Initiative is certainly timely and will be very beneficial in the long term. We appreciate you joining us today, and we look forward to doing this again three months from now. Have a great day.

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