South Plains Financial, Inc. Q2 FY2024 Earnings Call

Good afternoon, ladies and gentlemen, and welcome to South Plains Financial, Inc. Second Quarter 2024 Earnings Conference Call. During today's presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be open for questions with instructions to follow at that time. As a reminder, this conference call is being recorded. I would now like to turn the call over to Mr. Steve Crockett, Chief Financial Officer and Treasurer of South Plains Financial. Please go ahead, sir.

Thank you, operator, and good afternoon, everyone. We appreciate you joining our earnings conference call. With me here today are Curtis Griffith, our Chairman and Chief Executive Officer; Cory Newsom, our President; and Brent Bates, our Chief Credit Officer. The related earnings press release and earnings presentation are available on the News & Events section of our website, spfi.bank. Before we begin, I'd like to remind everyone that this call may contain forward-looking statements and are subject to a variety of risks, uncertainties, and other factors that could cause actual results to differ materially from those anticipated future results. Please see our Safe Harbor statements in our earnings press release and in our earnings presentation. All comments made during today's call are subject to those Safe Harbor statements. Any forward-looking statements presented herein are made only as of today's date, and we do not undertake any duty to update such forward-looking statements, except as required by law. Additionally, during today's call, we may discuss certain non-GAAP financial measures, which we believe are useful in evaluating our performance. A reconciliation of these non-GAAP financial measures to the most comparable GAAP financial measures can also be found in our earnings release and in the earnings presentation. Curtis, let me hand it over to you.

Thank you, Steve, and good afternoon. On today's call, I will briefly review the highlights of our second quarter 2024 results as well as discuss our efforts to drive our profitability and returns as we continue to strive to be a high performing bank. Corey will discuss our loan portfolio as well as our initiatives to drive growth across the bank. Steve will then conclude with a more detailed review of our second quarter financial results. Starting on Slide 4 of our earnings presentation, we delivered second quarter diluted earnings per share of $0.66 as compared to $0.64 in the first quarter 2024. Strength in the quarter came from robust organic loan growth, which lifted the yield on our loan portfolio and contributed to our margin expansion. We also continued to closely manage our liquidity with a focus on maximizing the profitability and returns of the bank. This led to a modest reduction in customer deposits, as we worked to keep deposit costs steady through the quarter. Importantly, we believe competitive pressures for deposits have started to ease, while new loan yields have remained robust, leading to our solid NIM expansion in the quarter. Looking to the second half of the year, we expect our NIM expansion to moderate as deposit costs are likely to move modestly higher, while loan growth returns to more normal levels, as Corey will discuss in a moment. Strength in the quarter also led to further improvement in our efficiency ratio, which declined to 66.7%, as compared to 67.9% in the linked quarter, while our return on average assets improved 3 basis points to 1.07% as compared to the first quarter. We also grew our tangible book value per share to $24.15 at June 30, as compared to $23.56 at March 31, 2024. I am very pleased with the steady financial progress that we continue to deliver, which is a credit to our employees and their commitment to the bank and our customers. I'm also pleased that our performance is being recognized more broadly as Forbes Magazine ranked Citibank Wealth in their 2024 Best Banks in America list. While S&P Global Market Intelligence ranked us the 28th best performing U.S. Community bank with assets between $3 billion and $10 billion in 2023. This speaks to our management team's focus on operating South Plains at a high level, while maximizing value for all our stakeholders. Turning to credit, we continue to aggressively manage the credit quality of our loan portfolio. During the second quarter, we moved a substandard multifamily property loan in Houston to non-accrual. This is a loan that we have had rated substandard since June of last year and have been closely monitoring and proactively working on the credit over that time period. This is not a surprise nor a reflection of the multifamily market in Houston or in any of our markets. As we have discussed on prior calls, we have a strong credit culture that is focused on identifying problems early, working with our borrowers, and taking the appropriate steps to resolve challenges. We continue to vigorously stress test the credit quality of our loan portfolio in order to identify potential problems early and then work to remediate them. We will never sacrifice credit quality for growth, especially in the current environment, where we are starting to see a few stresses in the national economy. We are fortunate to operate in Texas, where the economy remains healthy with a growing population and a business-friendly state government. We will remain cautious and vigilant given the current high interest rate environment. As a result, we are aggressively preparing for whatever environment may come over the next few quarters and have confidence in the credit quality of our loan portfolio. While the economic outlook may be uncertain, we believe that we are in a strong position as the bank and the company each significantly exceed the minimum regulatory levels necessary to be deemed well-capitalized. At June 30, 2024, the consolidated common equity Tier 1 risk-based capital ratio was 12.61%, and our Tier 1 leverage ratio was 11.81%. Additionally, our loans held for investment to deposit ratio stood at 85% at quarter end. Given our capital position, we remain focused on both growing the bank, while also returning a steady stream of income to our shareholders through our quarterly dividend. Yesterday, our Board of Directors authorized a $0.14 per share quarterly dividend, which will be our 21st consecutive quarterly dividend to be paid on August 12, 2024, for shareholders of record on July 29, 2024. We also have a $10 million stock repurchase program in place, which our Board authorized in February. We had limited buyback activity through the second quarter, as we balanced liquidity for growth, as well as being mindful of the limited trading volume of our shares. To conclude, the bank is doing well and is positioned, we believe, to drive organic growth across both our community and metropolitan markets while being well prepared for varying economic conditions as we have proactively managed the credit quality of our loan portfolio to ensure we're staying ahead of any challenges. I'm excited for the many opportunities that lay ahead. Now let me turn the call over to Cory.

Thank you, Curtis, and good afternoon, everyone. Starting on Slide 6, we grew our loan portfolio by $82.5 million or 10.9% annualized in the second quarter as compared to the linked quarter. Our loan growth remained relationship focused and occurred primarily in direct energy loans, seasonal agriculture-related loans, and single-family property loans. As I will touch on, this loan growth was partially offset by the expected decline in our consumer auto loan portfolio. We also experienced an approximate $20 million loan payoff in the second quarter, which was at a below market interest rate and provides us the opportunity to redeploy the liquidity at a market rate. Looking forward, we continue to expect low to mid-single-digit loan growth for the full year 2024. Our guidance is based on expectation that we could continue to experience payoffs through the second half of the year. Additionally, several of our bigger construction and development loans have largely been funded through the second quarter, so this tailwind that we've been experiencing is set to decline. Overall, if our payoffs are lower than anticipated, we would expect full year loan growth to be at the high end of our range. The yield on our loan portfolio was 6.6% in the second quarter, up seven basis points as compared to 6.53% in the linked quarter. As we move through the year, it is expected that the Federal Reserve may begin to reduce their benchmark interest rate by 25 or 50 basis points depending on their ability to bring inflation closer to their 2% target. We continue to believe that a lack of liquidity in our markets may keep new loan yields elevated, while rates begin to decline, which will be supportive of our margin and net interest income growth. Moving to Slide 8. We grew loans by $8 million or 3% annualized to $1.07 billion in our major metropolitan markets of Dallas, Houston, and El Paso as compared to the linked quarter. Our growth was impacted by the $20 million pay down in El Paso, which I previously mentioned. Our major metropolitan loan portfolio now represents 34.5% of our total loan portfolio, which speaks to the scale that our lenders have achieved. Looking forward, we continue to benefit from dislocation caused by competitive mergers, which continues to provide opportunities for our team to take share and move relationships to South Plains. The Permian Basin is also a region that continues to experience dislocation as competitors go through both ownership and leadership changes which is creating an opportunity to attract high-quality loan and deposit relationships to South Plains. As I discussed on our first quarter call, we've invested in our people, branches, and infrastructure in the Permian and are hitting our stride as our Citibank brand continues to gain acceptance in the region. The loan growth that we've been experiencing should drive interest income growth in the quarter ahead, while we have opportunities to reprice loans as outlined on Slide 9. As we have been discussing, we expect to continue to deliver interest income growth as many lower rate loans continue to experience principal repayments and or rate resets. We expect the pace to continue through the third quarter. Turning to Slide 10, our indirect auto loan portfolio declined $19.7 million to $253.7 million at the end of the second quarter. We remain cautious with a focus on maintaining the credit quality of this portfolio as competitors continue to be more aggressive at the higher end of the credit spectrum while volumes have declined. We're not changing how we price risk and are comfortable seeing our portfolio gradually shrink. As Curtis said, we will never sacrifice credit quality for the sake of growth. This can be further seen in the indirect portfolio's strong credit quality where 30-plus days past due were 21 basis points in the second quarter, essentially flat from 22 basis points in the first quarter. Additionally, our 10 to 29-day past dues are an early indicator that the consumer is having challenges, and ours continue to hold steady through the second quarter. Turning to Slide 11, we generated $12.7 million of non-interest income in the second quarter as compared to $11.4 million in the linked quarter. This was primarily due to increases of $1 million in bank card service charges and interchange revenue mainly as a result of continued growth in customer card usage and incentives received during the period, $408,000 in income from investments in small business investment companies, and incremental growth at our treasury management business. These increases were partially offset by a decrease of $548,000 in mortgage banking revenues, which included a decrease of $735,000 in the fair value adjustment of the mortgage servicing rights assets. For Q2, non-interest income was 26% of bank revenues as compared to 24% in the first quarter. Continuing to grow our non-interest income remains a focus of our team. I would now like to turn the call over to Steve.

Thanks, Corey. For the second quarter, diluted earnings per share was $0.66, which compares to $0.64 per share in the linked quarter. Turning to Slide 13. Net interest income was $35.9 million for the second quarter as compared to $35.4 million for the linked quarter. Interest income increased $481,000 in the second quarter as compared to the linked quarter, primarily due to a $1.6 million rise in loan interest income and a decrease of $930,000 in interest income on other interest earning assets. The growth in loan interest income was mainly due to an increase in average loans of $68.1 million and a rise of 7 basis points in the yield on loans. Our net interest margin calculated on a tax-equivalent basis was 3.63% in the second quarter as compared to 3.56% in the linked quarter. The 7 basis point increase to our NIM was due primarily to higher loan yields that more than offset the rise in our cost of deposits. Our non-interest bearing deposits declined modestly through the second quarter to 26.3% of total deposits, as compared to 26.8% in the linked quarter. As outlined on Slide 14, our average cost of deposits was 243 basis points in the second quarter, an increase of 2 basis points from the linked quarter, as the competition for deposits has eased through the quarter. Importantly, we have been aggressively managing our funding costs to maximize our profitability, which has led to a modest decline in our deposit base in the quarter. We continue to pursue initiatives to drive organic deposit growth to match our liquidity needs, as we work to drive loan growth through the second half of the year. We will continue to prudently manage our liquidity, as we focus on our profitability and returns. Turning to Slide 15. Our ratio of allowance for credit losses to total loans held for investment was 1.40% at June 30, 2024, unchanged from the end of the prior quarter. We have recorded a $1.8 million provision for credit losses in the second quarter, which was largely attributable to net charge-off activity, increased loan balances, and higher non-performing loans during the quarter. As Curtis touched on, our non-performing loans totaled $23.5 million at the end of the second quarter, an increase of $20 million from the first quarter, due to a previously classified $20.6 million multifamily property credit that was placed on non-accrual status after the maturity date was accelerated. Skipping ahead to Slide 18, our non-interest expense was $32.6 million in the second quarter, as compared to $31.9 million in the linked quarter. The $642,000 increase was largely the result of a rise of $436,000 in mortgage commission expense as loan originations increased. Looking ahead to the third quarter, we expect non-interest expense to modestly rise from the second quarter's level. Moving to Slide 20. We remain well-capitalized with tangible common equity to tangible assets of 9.44% at the end of the second quarter, an increase of 22 basis points from the end of the first quarter. Tangible book value per share increased to $24.15 as of June 30, 2024, compared to $23.56 as of March 31, 2024. The increase was primarily driven by $8.8 million of net income after dividends paid. I'll turn the call back to Curtis for concluding remarks.

Thank you, Steve. To conclude, I'm very proud of our second quarter results, as we continue to focus on maximizing our profitability and returns as we strive to deliver value for all of our stakeholders. Through the quarter, we generated healthy loan growth while keeping our funding costs relatively stable, which led to an expansion of our NIM. Looking forward, we are seeing a slight easing of competitive pressures on deposit costs, good opportunities to expand lending across our markets and are making progress on growing our non-interest income. I believe we're well-positioned to further grow the bank, and I remain optimistic about the future for South Plains. Thank you again for your time today. Operator, please open the line for any questions.

Thank you. Our first question comes from Brett Rabatin with Hovde Group.

Hey, good afternoon, everyone. I wanted to start with the fee income and the bank card. Is the second quarter level of fees, is that kind of a good run rate to build off of from here or do you expect any of those various buckets to be different relative to the second quarter and the back half of the year?

Yeah, Brett, this is Steve. It's a little bit elevated on the bank card side. There's just some annual rebates and a few things that make that a little bit higher usually in the second quarter, around $400,000 or so probably. But outside of that, overall non-interest income, those other line items should be pretty good run-rate outside of maybe what mortgage might do.

Okay, that's helpful. Curtis, you mentioned that the deposit pressures might be easing a bit. Can you provide any specific examples, such as whether we can lower the rates on some 5% CDs, or when you refer to easing, could you give us a bit more detail?

I think I'd say that we're just seeing fewer ads out in the local media about rates that start with a 6. There might still be a few out there, and there's definitely still some out there that are in the 5s. But we're just not seeing the ad dollars being spent, I guess, to try to move business over. And we certainly have some competitors who are still very hungry for deposits. We have kind of taken the position that we're not going to see a whole lot of stuff run off, but we're going to keep reasonable liquidity. If some high-cost deposits won't move elsewhere, we'll give them a chance. But right now, that's the way I kind of summarize it, that the advertising dollars being spent to promote very high-interest CDs or money market accounts has diminished in most of our markets.

So, Brett, this is Cory. Hope you're doing well. I think I would just tack on with that though. We have been working at reducing some of the rates that we have on some of our deposits and we're not seeing any runoff that's coming with it. Now, we're not going to be so naive to think that we're going to cut them down and try to replace them. It's too much of a challenge to go chase new dollars, but we have been slowly dialing that down a little bit.

Okay. If I could sneak in one last one around that multifamily loan, could you provide any color on appraisal, do you have a specific reserve on it? And then just how you see that loan working off the non-accrual bucket?

So Brett, this is Cory. I want to explain how we reached our current situation. We've discussed this with you multiple times regarding our efforts to identify issues early, and this is a clear example. We recognized this credit issue over a year ago and have been working to resolve it. I believe this matter is fully accounted for, and that’s where I will leave it for now. I want to emphasize that we do not consider this credit issue to be widespread as some are suggesting with multifamily properties. We believe it is an isolated case. We are in the process of resolving it, and I take pride in how we identified the problem. This aligns with our efforts to recognize these credits early and handle them appropriately. We have a solid track record in this area, and this is just one instance of that.

Our next question comes from the line of Joe Yanchunis with Raymond James.

Good afternoon. Over the past few quarters, your metro markets have been delivering the lion's share of the loan growth. I understand there was a $20 million pay down. I believe you said in El Paso. But is there anything to call out for the outsized loan growth coming from your rural markets? Do you expect that trend to continue for the balance of the year?

Joe, this is Brent. Our pipelines have been pretty stable throughout this year. What I would say is, it is getting a little bit more granular. The average loan balance coming in, we think is going to be a little bit smaller, but the total pipeline is staying about the same. We've got a pretty good mix, but this year is becoming less metro and more from our other markets.

Joe, if you look at what really makes up some of the non-metro for us, I mean bringing the stuff back into West Texas and the Permian and stuff, we've had great business in these markets. It's a nice complement to what we're doing in the metro stuff.

Absolutely. Okay. Perhaps I missed this in the materials. Did you quantify how much stock you repurchased in the quarter? And given the recent run-in the stock, can you shed some color on your appetite for share repurchase activity from here?

Yes. I'll start. It was a nominal amount in the buyback and really occurred in the earlier part of the quarter. I think we had talked maybe a little bit last quarter, about we've got the buyback in place, but we were fairly aggressive with it in the previous buyback plan, but we were going to be a little bit more cautious in where that is I'll let Curtis talk and I'll pull up that number, but it's definitely not a significant number.

Joe, of course, we're very pleased at the recent run up. I'd like to think some of that's just recognizing some value that we bring in, but we also understand, obviously, it's a very broad-based increase to most bank stocks out there. I guess, the market begins to realize that bank stocks have generally all been undervalued for quite a while now, and maybe some money is moving back out of some of the high-flying tech stocks and finding a home in the financials. I figured we're a beneficiary of that a little bit. Yes, we still want to have the plan in place in case we do see some decline in there to be then supportive of the market. But, at current levels, we'd be pretty slow to be adding anything in there in terms of buyback, where the market goes from here. But we're getting on up there and I think some more. I just say reasonable prices, I guess, on how the stock has been trading lately.

Yes. We bought about 12,000, 13,000 shares back during the quarter. How about that? $300,000 or $400,000 worth.

Okay. And then last one for me here. Given the forward curve, can you discuss the impact to loan yields with the 25 basis point rate cut?

Steve?

Yes, I'll start. We've been considering this for a while, and we believe that a 25 basis point cut will be more neutral for us based on our assumptions and the repricing we are aware of. It will take a few more rate cuts before we begin to observe anything beyond that. In the short term, you might see a slightly higher expense or slightly lower interest income compared to the reduction in interest expense, at least until some deposits are repriced, which may not align perfectly with the rate cut. However, we do have public funds and other deposits linked to an index that should offer some relief. Still, it will require a few additional rate cuts before we notice more significant benefits.

And Joe, I would like to echo what Steve mentioned. If you consider the situation in a worst-case scenario, it remains neutral. We will continue our efforts to capitalize on it in every possible way. However, even in the worst-case scenario, it would just be neutral for us.

Our next question comes from the line of Woody Lay with KBW.

Hey, guys. Wanted to start on loan growth. I mean, it was pretty impressive, especially given the pay downs you saw in the quarter. Could you just talk through sort of the appetite your customers have for credit in this current environment?

Yeah. And this is Brent. One of the things I think was mentioned, one of the things that drove our growth this quarter were ag operating lines, about $25 million of that funding. And while we're seeing a good pipeline and good volume, and it's been pretty steady over the last couple of quarters, It's certainly less than it has been in the past couple of years. But I feel like it's sustainable. The types of deals we're seeing are kind of across the board, but the C&I was that really drove our growth this quarter were mostly M&A-related strategic transactions with wealthy families that were making a strategic decision about their business. And we're still seeing a little bit of that right now that makes sense for us, makes sense for them.

Woody, this is Curtis. One of the other things that we've hit on several times, we had some fairly significant debt construction projects going. And while there are not new loans on the books in the quarter, they were loans that still hadn't completed their construction. There were still draws out there. We're not completely to the end of that, but we're getting fairly close. I would say that we are not seeing the volume of new construction lending coming in that we had nine months ago. That's one effect. You saw a nice bump out there in some loan balances that weren't truly new loans on the books. They were just continuing to fund what we'd already had committed. That's one reason. We're being pretty cautious. I think that in the third and fourth quarter, we'll still get some growth. I do believe that. But it's probably not going to be at the level we saw here in the second quarter.

Woody, I think we go one step further though. We're sitting here in the latter part of July right now. We actually have a crop in the field. We hadn't funded up. Even to this point in the year, we had fundings even to where we are the most part our anticipated fundings in a long time. If you couple that with some of the additional loan growth that we see, we're going to be conservative in what we think is going to be out there and we're going to be careful about the type of stuff that gets through our credit culture. But I'm telling you, you get a little bit of ag to add into it this year that we hadn't had in a couple of years.

The Ag loans traditionally when we have a good crop, you'll see some fairly significant fundings in the third quarter. While we'll get some pay downs during the calendar year, we really won't see much until fairly late in the fourth quarter. We'll get the benefit of that for most of the next two quarters out there, as those fundings get off the books too. As Corey said, we're glad to have it because we just haven't had much in the last couple of years.

Yes. That's really helpful color. I think you also mentioned growth in the indirect energy loans in the quarter. Could you quantify the growth in that segment?

It was about $15 million. It's really energy-related transactions. There were service transactions. There were corporate bridge transactions. And so some of that may be temporary fundings, but good business, good overall business with deposit and other fee income business. Some of that will be temporary, but it's really energy-related more on the service side than I would say direct exploration.

Yes. We didn't suddenly decide to loan a bunch of money to people to go dig oil wells, just to be clear. Now the loans are very much energy related, as Brent says, but we didn't suddenly change direction and start funding a bunch of exploration loans.

Got it. And then lastly, you called out some initiatives implemented in order to boost deposit growth. Just any detail you can provide on those initiatives?

I don't think that there's any one smoking gun out there. For us to sit there trying to tell you that I think would be remiss. I think we do a really good job from a customer service standpoint chasing the treasury. We talk about treasury all the time. I'm telling you, our team is amazing in what we've been able to pull together and we have continued to expand that, but it all gets down to deliverables. It's just one aspect of what we're doing throughout the bank. Is there one secret smoking gun? I don't think I'll introduce you to name there. I think you can see we're maintaining deposit levels that sounds working.

Our next question comes from the line of Stephen Scouten with Piper Sandler.

Hey. Thanks, guys. Good afternoon. I wanted to just revisit that conversation around rate cuts and how your balance sheet might respond. Are you guys still modestly liability sensitive overall? And can you remind me what amount of the book is kind of truly floating? I think it was maybe in the 15%-16% of loans that are truly floating rate, but just a refresher there?

Yeah. We are still slightly liability sensitive at this point, but very, very slightly given what we're estimating on different pay downs and different things on the loan side. As far as the mix, yeah, about 19% of the portfolio is variable that would reprice immediately.

Got it. Okay, helpful. Thank you. And then on the loan growth commentary, it sounds like things will continue at a nice pace, maybe not quite as rapid as we saw this quarter. But how do you think about overall balance sheet growth beyond that? Obviously, you did have strong growth this quarter, but average earning assets were actually down. So just kind of wondering how that mix will play out and if you think you'll see actual balance sheet growth along with the loan growth moving forward?

I wouldn't look for really large asset growth, but we've still been working hard in some of our markets, Permian in particular, to add to the team and get more relationships in the bank. So we're not trying to shrink the bank by any means. What we are trying to do is rationally maintain the proper liquidity out there to not be paying interest on money that we really don't have any good use for. Particularly, if we do get back into an environment of Fed rate cuts, we want to be proactive in trying to plan for those and not be tying down a lot of high-cost deposits for a long time. So we continue to lean forward paying up very competitive rates on our new accounts, money market accounts, and we'll continue to utilize that tool in markets that we see chances to expand in. We have seen some pretty good deposit growth even in our metro markets. I think that's going to continue. Again, we're not trying to grow at any super-fast pace, but as long as we can get a fairly steady low to mid-level percentage of asset growth annualized, I think we're pretty happy with that right now in this environment.

Yes, that makes a lot of sense. And then I guess lastly, I'm sorry, Cory, go ahead.

No, I mean, you just go with what Curtis was talking about. We're trying to determine how much of the rate cut it will take to really see that next boost in loan growth and demand. Our focus is on being prepared in advance to fund that. Additionally, we have the upcoming election, which is approaching quickly. We discussed this election, but it's coming up soon. So, as rate cuts come into play, whether there are one or two this year or what happens after the start of the new year, we're just ensuring we're ready from the funding perspective because we continue to see demand. We are aware of various projects that are just waiting for some improvement.

Yes, makes sense. Optionality is always good. Appreciate all the time, guys.

Thank you. We have reached the end of the question-and-answer session. I'll now turn the call back over to Curtis Griffith for closing remarks.

Thank you, operator. Thanks, everybody, that participated on the call today. We do think we are well-positioned now for whatever may come our way. We do face potential challenges, as we just said out there in the national economy and perhaps the world situation. While we can't plan for everything, we still believe here that being cautious and conservative in our approach to handling of our capital and our depositors' funds is the right thing to do. We love the markets that we're in. We think we will continue to have expansion opportunities in those markets, and we have some awesome people out there on the team, that continue to work very hard every day to bring that business into Citibank and South Plains Financial. They're the reason that we can do what we can do. I always want to say thank you to every one of them because we wouldn't be here without them. With that, I will close the call. Thank you.

Thank you. This concludes today's conference and you may disconnect your lines at this time. Thank you for your participation.