United Community Banks Inc Q4 FY2020 Earnings Call

Good afternoon, and welcome to Reliant Bancorp's Fourth Quarter 2020 Earnings Conference Call. Today's call is being recorded. Hosting the call today from Reliant Bancorp is DeVan Ard, Chairman and CEO. He is joined by Jerry Cooksey, Reliant Bancorp's Chief Financial Officer; John Wilson, Reliant Bancorp's President and Alan Mims, Chief Credit Officer of Reliant Banc. Please note, Reliant Bancorp's press release and this afternoon's presentation slides are available on the investor relations page of the company's website at www.reliantbank.com. At this time, all participants have been placed in a listen only mode. The call will be open for questions after the presentation. During this call, members of the Reliant Bancorp management may make comments which constitute forward-looking statements within the meaning of and subject to the protections afforded by the federal securities laws. All forward-looking statements are subject to risks and uncertainties and other factors that may cause the actual results and the performance or achievements of Reliant Bancorp to differ materially from any results, performance or achievements expressed or implied by such forward-looking statements. Many of such risks, uncertainties and other factors are beyond Reliant Bancorp's ability to control or predict, and listeners are cautioned not to place undue reliance on such forward-looking statements which speak only as of the date they are made. Certain of these risks, uncertainties and factors are discussed in Reliant Bancorp's public filings with the Securities and Exchange Commission, including in its most recent annual report on Form 10-K, its quarterly reports on Form 10-Q and its current reports on Form 8-K. Except as otherwise required by applicable law, Reliant Bancorp disclaims any obligation to update or revise any forward-looking statements made during this call, whether as a result of new information, future events or otherwise. I would also refer you to Pages 1 of the presentation slides for Safe Harbor Statement regarding forward-looking statements and non-GAAP financial measures and other information. I would like to now turn the presentation over to Mr. Ard, Reliant Bancorp's Chairman and CEO.

Thank you, operator, and good morning, everybody. Thanks for joining us for our fourth quarter earnings call. Given the challenges resulting from the COVID-19 pandemic, it is particularly rewarding for me to announce that our team produced another outstanding quarter. For many individuals and small businesses impacted by the COVID-19 pandemic and social unrest, we’re fortunate that economic conditions in our local markets have not deteriorated like in many areas of the country. I couldn't be prouder of our team and our customers who have adapted to overcome many challenges and contributed to our success. We are also extremely proud of the recognition we received in October when we were named as the best small bank in Tennessee by Newsweek in its first ranking of financial institutions that best serve their customers' needs in today's challenging times. And whatever we face, our goal is to continue serving each other, our customers, and the communities in which we live and work. The results of the fourth quarter are summarized on page two of our presentation. The substantial synergies that we anticipated from the two mergers completed earlier this year are being proven out with revenue enhancements and cost savings realized as expected. Throughout each quarter of 2020, we've been able to maintain strong asset quality metrics and demonstrate growth in many other key measures, earnings per share, core deposit growth, efficiency ratio, and tangible book value accretion. And as you can see, our earnings per share for the fourth quarter was $0.73, up 97% from the fourth quarter of 2019. Our return on average assets of 1.6% showed an increase of 84% from the fourth quarter of 2019's ROA of 87 basis points. Profitability has increased largely due to improvements in our net interest margin and efficiency ratio. Our adjusted net interest margin increased 11 basis points from the prior quarter to 4.09%, a measure we're particularly proud of in the current interest rate environment. Not only have our bankers maintained profitable loan pricing, but we've been able to attract and retain low-cost deposits through various initiatives, as reflected in our total cost of deposits which declined 45 basis points, or 64% from the fourth quarter of 2019 to the fourth quarter of 2020. We're especially pleased with the growth of non-interest bearing deposits, which have grown from 16% of our deposits at the end of 2019 to 22% at the end of 2020. Some of this increase is due to government stimulus; we believe a substantial portion of it is due to our team's focus on low-cost deposit initiatives and our business customers' increased liquidity. For example, we opened almost 1,700 new checking, savings, and money market accounts in the fourth quarter, down less than 1% from the same quarter in 2019, which was pre-pandemic; an outstanding achievement for our team. Loans declined during the fourth quarter, as solid loan production was slightly outpaced by higher-than-normal repayments. We've seen borrowers selling properties and paying off loans sooner than anticipated to take advantage of perceived favorable individual tax rates. Additionally, PPP loans accounted for $18 million of the decrease in loans, as these loans were either paid off or forgiven during the quarter. We closed $170 million in new loan commitments during the quarter at a weighted average rate of 4.39%. One segment of our loan portfolio I'd like to highlight is our manufactured housing segment. We've discussed this with you in the past, but I'd like to point out that it makes up almost 10% of our portfolio at year-end and had an average yield, excluding any purchase accounting accretion, of 9.01%. The portfolio also grew 22% in 2020, and we're anticipating similar growth in 2021. We believe that products such as this differentiated us from our competitors, and we will continue to look for similar differentiators in future acquisitions. Another bright spot for the quarter was our efficiency ratio. When evaluating our efficiency ratio, we believe the bank segment adjusted efficiency ratio, a non-GAAP measure more closely aligns with how we monitor expenses. It improved 25% over the prior year to 47.2% for the fourth quarter of 2020. Again, this demonstrates our expense management realization of planned merger synergies. Before I end my initial comments, let me talk for a minute about asset quality. We've not seen significant credit deterioration in our loan portfolio, which is evidenced by continuing low levels of non-performing assets and net charge-offs. However, we continue to modestly increase our allowance for loan losses due to the unprecedented and uncertain environment we're operating in. Alan Mims, our Chief Credit Officer, will provide more detail about the loan portfolio in a few minutes. But for now, I'd like to turn the call over to Jerry Cooksey, our Chief Financial Officer, for a detailed look at our financial results. Jerry?

Thank you, DeVan, and good morning. As DeVan said, we had another very solid quarter. As you'll see as I take you through some additional features, as shown on Page 2 of the earnings presentation, fourth quarter 2020 net income was $12.2 million or $0.73 per diluted share. Net income included three items of note that I'll expand on. First, purchase accounting accretion was $2.8 million for the quarter, with $726,000 of that attributable to early pay-offs of acquired loans. As noted on previous calls, the purchase accounting accretion for pay-outs has declined over the last three quarters as anticipated. Purchase accounting accretion contributed approximately $0.12 net of taxes to earnings per share. Second, the provision expense was $950,000 for the fourth quarter, which increased our allowance for loan loss to total loans to 0.90%. When including our remaining purchase loan discounts with our allowance, this metric rises to 1.62% at December 31, 2020. Lastly, we received approximately $1.3 million in wholly proceeds recognizing non-interest income during the quarter. These funds provided us the opportunity to restructure our investment portfolio, pay off some higher rate borrowings, as well as to accelerate some expense projects into 2020, providing strong momentum into 2021. The net impact of these transactions increased earnings per share by approximately $0.02. While DeVan mentioned our ROA at 1.6%, I would also like to highlight our return on average equity, which was 15.48% for the quarter, a significant 84.4% improvement from the fourth quarter of 2019's ROITC of 7.43%. Our return on average tangible common equity was even more impressive at 19.38% for the fourth quarter of 2020, a 57.4% improvement from the fourth quarter 2019's ROITC of 12.31%. Moving on to Page 3, I'll touch on some factors surrounding our margin. Again, this slide presents our adjusted net interest margin, a non-GAAP measure, which adds tax equivalent adjustments to net interest income and removes purchase accounting assessments. Our adjusted margin steadily increased from the fourth quarter of 2019 from 3.36% to 4.09% in the fourth quarter of 2020. The 22% increase is a testament to our team's efforts in a challenging interest rate environment. Page 4 shows a consistent increase in performance of our bank segments and efficiency ratio since our most recent acquisition, from 47% to 51%. From Page 5, we present several measures of shareholder value. One item I'd like to highlight is the improvement of our tangible book value per share in the fourth quarter of 2020. Following our two transactions earlier in the year, we ended the fourth quarter at $15.39, a 20% annualized increase from the linked quarter due to strong net income. We're particularly proud that in the last year, we've essentially earned back the entire dilution which resulted from our 2020 acquisitions. We believe we can continue driving shareholder value through earnings and through building tangible book value. Let's move to Page 6 and look at our loan portfolio. Loans held for investment totaled $2.3 billion at December 31, 2020, a slight decrease of $57 million from September 30. While loan growth is expected to be mild due to the current economic environment, our pipeline is promising and indicates potential for further expansion of our market share in the coming quarters. Loan yields declined 10 basis points from the linked quarter, but the decline is primarily from 14 basis points of lower purchase accounting increasing. Lower levels of purchase accounting increasing were anticipated as we move further away from the original acquisition date. We recognized roughly $1 million in interest income and fees on PPP loans during the fourth quarter. Of that $1 million, approximately $400,000 resulted from pay-off or forgiveness. Our loan coupon plus fees for the quarter with and without PPP differ by only one basis point, showing our core loan portfolio is the true driver of our yields. Turning to Page 7, our deposit portfolio continues to trend upward in the fourth quarter. Our deposit portfolio totaled $2.6 million at December 31, 2020, and has grown at a CAGR of 35.5% since 2016. Our deposit costs continue to decline, from 96 basis points in the fourth quarter of 2019 to 51 basis points for the fourth quarter of 2020. As shown on the right side of the page, we've also had continued success at reducing our use of wholesale deposits while still maintaining access to cost-effective funding. On Page 8, our capital ratios continue to define a well-capitalized financial institution, and available liquidity remains adequate to fund our company. Our capital ratios continue to improve despite the economic uncertainty, and we remain very comfortable with our capital, liquidity, and reserve levels. I'll now turn the presentation over to Alan Mims, our Chief Credit Officer, for his perspective on our loan portfolios and credit metrics.

Thanks, Jerry, and good morning. I'll begin my comments on Page 9 of the presentation. Credit metrics have continued to remain strong through December 31. Non-performing assets and past due loans continue to be minimal and well controlled compared to previous quarters in 2020. We continue to strengthen our allowance provision through our normal provisioning process, taking into account continuing concerns arising from the COVID-19 pandemic. We reported limited net charge-offs for the quarter of three basis points annualized. The entire fourth quarter provision of $950,000 is attributable to COVID-19 concerns, as the loan portfolio remained essentially flat. We continue to compute our allowance level based on the incurred loss methodology. While we've seen some improvement in national and local economic conditions, concerns remain regarding spiking virus cases and continued interruptions to the full reopening of the economy. We actively monitor market conditions and will respond in our allowance methodology as appropriate. For the fourth quarter provision, the allowance represented 90 basis points of total loans held for investment. It's important to note that purchase accounting rules require that acquired portfolios be valued at their fair value, which makes the allowance to loans ratio appear low. However, when unaccredited purchase discounts are considered, the total reserve for credit loss becomes 1.62%; lower sales further improves that to 1.67%, net of PPP loans. At quarter-end, we believe we have adequately provided for possible losses. For informational purposes, we continue to include slides on pages 10 through 13 for details on our construction and commercial real estate portfolios, and segments we view as having increased risk during the COVID-19 pandemic, including details of our hospitality and retail commercial real estate portfolio. While we recognize those categories are generally presumed to be at higher risk of default in the current environment, our in-depth and continuing reviews of borrowers have indicated very few issues in those categories. I would also like to provide an update on the loan modification and assistance we provided our customers throughout 2020. As you will note on page 13 of the presentation, we provided initial payment relief over 20% of our portfolio, either in principle deferment or full payment deferral for up to a 90-day period. Those referrals were granted liberally for federal regulatory guidance. For second modification requests, we performed a much more detailed level of due diligence to confirm a valid business need for those requests. In the second round of deferrals, we granted far fewer requests and generally with less concessions, such as allowing the customer to receive interest-only payments rather than full deferral, or granting deferrals for only one month rather than a full 90-day period. For the second round of modification requests in particular, we've also been paying close attention to confirm there's not been a material decline in the borrower's financial conditions as facts and conditions were in, relationships are downgraded accordingly. As of December 31, we've had very few borrowers downgraded; at quarter end, modified loans made up only 1% of all loans. We continue to work with borrowers affected by the pandemic to ensure the best possible outcome for all parties. Finally, I'd like to update our PPP loan program. Through both rounds of funding for the program in 2020, we were able to serve 894 small businesses in our market with $83 million in funding. We began submission of forgiveness requests to the SBA, generally for those loans greater than $150,000, and 34 of 31 saw a reduction in PPP loans, so the $18 million primarily from the forgiveness process. The recently passed Consolidated Appropriations Act granted much-needed clarity and simplicity for those borrowers with loans of $150,000 or less. As those rules are finalized, we expect an increase in forgiveness applications for those affected borrowers. Importantly, the Act also provides additional assistance to small businesses with another round of PPP funding. These loans are instrumental in supporting many small businesses during the early stages of the pandemic, as certain cases have continued to impact the economy. These funds will provide important capital to help sustain those impacted businesses. Thank you. I'll now turn the presentation back to DeVan Ard for his final closing remarks.

Thanks, Alan. I want to conclude my comments this morning by reviewing our 2021 strategy, which is found on Page 14 of our presentation. As we continue to grow, talent acquisition and retention remain top priorities. In June, we were named a top workplace by the Tennessee newspaper here in Nashville, one of only two local banks on the list, which we believe is a testament to the strong culture at our company. As we’ve adapted during the COVID-19 pandemic, we recognize the need to strengthen our digital presence as customer behaviors change. One of our 2021 initiatives includes building out and optimizing our digital channels to make banking easier for our customers, especially in a post-pandemic society, whether through changes to online banking or a mobile app. We are excited about providing new technologies to our customers. We also believe current economic conditions will create opportunities for strategic acquisitions. Our due diligence will have to be even more comprehensive and credit-focused. We've demonstrated our ability to identify, execute, and successfully integrate value-enhancing acquisitions, and we remain on the lookout for potential partners. With our size in the geographies we've targeted, we think we can be a great partner for banks that determine it's time to pursue a sale to create value for their shareholders. We will continue to be disciplined about our approach to M&A and only look at deals that will be accretive to our earnings. Maintaining our track record of consistent organic earning asset growth is critical to our long-term success, and that comes from building lasting relationships with customers in our markets, not buying loans or participating in syndicated credit. We expect loan growth to be slower in 2021, but I believe that the relationships our bankers have built will continue to result in high-quality balance sheet growth this year. Our recent acquisitions of Community Bank and Trust in Cheatham County and First Advantage Bank open new markets for us, including the attractive Clarksville MSA, and those markets have performed well through this challenging period. Our legacy markets have also started to rebound, and we're seeing an increase in loan demand outside the PPP loan program. We expect that demand to accelerate as the national economy recovers. We are currently reviewing our branch network redundancies and exploring additional branch locations to complement our current market. Controlling expenses will continue to be a focus in 2021, with a continual focus on finding opportunities to leverage our infrastructure and operate in an efficient manner. So, despite the challenges 2020 has brought, our communities continue to be very proud of how our employees have risen to the challenge of servicing our customers and building relationships in a very tough environment. Our financial results are evidence of the exceptional team and the great customers we get to serve here at Reliant Bank. We're looking forward to a new year and are excited about what the future holds. Operator, that concludes my remarks this morning, and we're ready to take questions. Thank you.

And our first question today will come from Brett Rabatin with Hovde. Please go ahead.

Hey, good morning, everyone. I wanted to start off just talking about expectations for loan growth. The way you said it would be a little slower this year; can you talk about if that is partly a function of expecting additional payoffs? How do you feel about the organic pipeline? Maybe just a little color if you could, on the growth outlook and how you're feeling about this year?

Sure. So we're kind of modeling growth right now in the 5% to 6% range. I think it's probably a function of a couple of different things. Payoffs are certainly hard to anticipate, especially when we look out a few months. The reasons for payoffs that come this year are probably going to be a little different than we saw in 2020, where there were quite a few asset sales. But we expect that to continue at some level. I think for us, more importantly, it's just still the uncertainty in the economic climate. As we see how 2021 unfolds with the regulatory environment, tax policy that might come out of the administration, and other initiatives that come out of the administration, we’re wondering where we are going with the Coronavirus spike we've seen in the last two to three months. Is it going to put a kind of cold blanket on the economy or is it going to gradually go away? I think those are all factors that probably impact loan growth; competition for good quality credits for rates is very strong again. It's amazing how quickly the banks in this area flip the switch from, we're just trying to get our hands around the impact of the pandemic, to let's go out and get all the good new lending assets we can get. That said, our current loan pipeline is still very, very strong. If you especially look at what we have historically, we're north of $100 million in new loans in the pipeline in the next 90 days. Those are all deals that apply fairly well. We also have $150 million in our top 10 construction loans that we anticipate funding over the next 12 to 18 months. They just haven't hit the books yet. So these are deals that we've closed with borrowers who typically, are a little uncertain about whether to launch a big project. As the economy recovers, and we do think it will recover, I personally think it'll be more like the second or third quarter of this year when you'll start seeing those funds up. I think all those factors weigh into our forecasts; we do expect to see some organic growth this year outside of M&A. But I think it's still a little murky, even in what I consider to be a good market.

Okay, that's great color. I also wanted to talk about expenses. You're improving the digital channels, and you're also looking at the branch network and the core efficiency ratio, which the bank has gotten really solid. Maybe just an outlook on expenses, if you can, and just thinking about the expense run rate and what you have to spend versus potential efficiency gains this year.

I'm going to let Jerry Cooksey handle that.

So we have, we obviously just went through our budget cycle for the year. As part of that, we spent a lot of time digging into the structure. We're predicting or showing in our budget that we're going to end up with first quarter non-interest expense lower than we had in the fourth quarter of 2020. That's partly because we had some one-time expenses that we accelerated into 2020, because we had the gain in income and we knew the analysts were not going to give us credit for one-time income. So we went ahead and offset that with some one-time expenses that would reduce our future run rates. So that totals about $305,000 in one-time, non-interest expenses in the fourth quarter.

So Brett, I'll just add real quick to start in our planning process. Our target is to increase non-interest expense while taking into account what we expect from a revenue standpoint. We originally targeted about a 3% increase overall in 2021 versus 2020, and I think we can attain that. That does not include any savings we expect to get from our branch transformation project, which we'll be unfolding quickly here in the first quarter.

That's helpful. And then maybe just one last quick question on M&A. You mentioned it, and obviously it would help if your stock price was higher. Any color if you could just on markets DeVan, you want to look at, and size ranges that you might be interested in acquiring. Are you hopeful you'll get one done this year?

Yes, I am hopeful we'll get one done. There's really nothing very active going on right now. I maintain contact with CEOs around the markets that we've targeted, Brett, and would certainly hope to have something that we can announce before we get into the fourth quarter. We're basically targeting what we've targeted in the past in terms of geography: Middle Tennessee, which kind of extends a little bit into southern Kentucky and down into North Alabama, and then the area around Chattanooga. We have a really nice operation in Chattanooga that I believe can leverage that operation to get a little more scale into it. That would be the Chattanooga area, maybe down in North Georgia. I don't really want to focus too much on size, as we get larger, we would prefer to do M&A with slightly larger banks, but suffice to say that there are a couple of dozen candidates in the geographies that I just defined. Generally, the size is going to be about $0.5 billion and above, but not always. Last year, CBP was smaller, but it was a great fit for us in a contiguous market to Nashville. So that's kind of what the landscape looks like. I continue to believe that the fundamentals that drove a robust M&A in 2019 are still there: lack of clear succession at the board level, at the senior management level in a lot of these banks, and no liquidity in their shares. As the economy gets a little more certainty, I think you'll see M&A activity pick up, and a strong stock price helps M&A. We've been running around 130% of tangible book value, and thankfully, we deserve better than that. Relative to some of our peers that are involved in the M&A business in Tennessee, I think we're still in pretty good shape. We could certainly pull one off if we can get it to the table.

Okay, that's right color. Congrats on the quarter and the full year.

Thank you. I appreciate it.

Our next question will come from Stephen Scouten with Piper Sandler. Please go ahead.

Hey, guys, quick follow-up, maybe for Jerry on the non-core and non-recurring items. I saw the $253,000 FHLB charge called out, but I think you noted maybe $305,000 in total. So I'm wondering what else is in there? Is that indeed inclusive of that $253,000?

No, the $253,000 was in interest expense because that was a prepayment to the Federal Home Loan Bank. The $305 was a non-interest expense, a combination of branch projects and IT projects that we had scheduled for '21 that we moved into '20. And then there was one other item.

The $1.3 million was the bowl gain?

That's correct.

$40 million was the gain here; the other one was from some security sales; that's almost $600,000, Steven. That was kind of getting some low-yielding securities out of our portfolio.

Perfect.

The Federal Home Loan Bank that was paid off had historic advances from a much higher rate environment, and we wanted to pay this off. So, you know, if we need to go back and re-borrow it, it would be more than 2% lower, right for the same maturity.

Okay. And when were those paid off? Will you have some incremental benefit into the coming quarters?

The Federal Home Loan Bank advances were paid off in the fourth quarter, I think, around the middle of November, if I recall correctly. So yes, we'll continue to see some benefit from significantly lower borrowing costs going forward.

Okay. And how do you think about that Core NIM? I guess from here? I mean, you had a really nice 11 base point jump this quarter; nice move down in funding costs. What do you think you can see in terms of trends for the Core NIM, especially with new loan yields in the 4.39 range versus the 4.70 kind of average loan yield? So how should we think about the Core NIM pressures and benefits?

I'll let John Wilson talk about where he sees new loan funding on the bank side.

Stephen, I'd just say on the deposit cost side, we have about $125 million in CDs that are maturing in the first quarter that are all above 170. The average weighted average rate is about 170. If we maintain the same retention rate we had in the fourth quarter, we will be able to retain quite a bit of that at rates roughly 100 basis points lower than what we're dealing with today. I think, if you look at our interest-bearing deposit costs, we've probably got another 10 basis points or so that we can bring out of that this quarter. My goal was to get interest-bearing deposits down below 50 basis points; I don't know that we'll get there in the first quarter, but that's kind of what we're shooting for.

Okay, very helpful. And then, you know, Jerry you mentioned manufactured housing, and then you talked about the growth expectations, which was north of 20% this past year, and could be even better this year. How do we think about that in terms of size? Is the portfolio around 10% today? How big would you be comfortable with that portfolio getting as a percentage of the total loan book?

You know, Stephen, it's a tough question to answer. We've started out when we first started dancing with First Advantage, thinking that the manufactured housing portfolio probably shouldn't be limited to around 10% of the total portfolio, but we didn't really know as much about how that operation runs as we do today. I think the group sitting around the table here has all gotten very comfortable with the discipline and rigor they bring to their process for underwriting and collecting. If you look at just about any credit metric that you would want to apply to a consumer portfolio of that size, we're in really good shape, whether it be charge-offs or past dues. We just have a really solid organization focused not only on growth but on credit quality. So, looking ahead from a year ago, I feel good about the growth in the portfolio; I don't currently have a specific target of whether it's 10%, 15%, or 20%; it just depends on the dynamics of that loan portfolio. But certainly, if we achieve 20% growth this year, that gets us in the $250 million to $375 million range, which is a little bit north of 10% based on what we're seeing for the end of the year, but not by much. So we're comfortable with where we are, especially with the team that we've got running that portfolio; they have just done a terrific job with everything.

Great. Super helpful. And then, maybe just the last thing for me. I'm curious, I know you talked about M&A, but also how you think the stock price is a little low relative to your performance, which I would agree with. So, I'm wondering how you think about the share repurchase, especially given the capital build you've had the last couple quarters?

Thanks. Good question. We are evaluating a repurchase program; you may remember we had one in place for 2020 that we suspended when the pandemic hit us, and we really didn't do anything last year. The board has shown their willingness to consider a new plan this year; I would expect us to put something in place probably in the first quarter. Don't really know the amount right now; we'll have a targeted price that we will work off, but we do think it’s a good capital planning tool to have in place, whether we actually exercise it or not. We're looking at something in the $10 million to $15 million range.

Fantastic. Thanks for all the color, and congrats on a great quarter and great year.

Thanks.

Our next question will come from Kevin Fitzsimmons with D.A. Davidson. Please go ahead.

Good morning, DeVan and everyone; I hope you are all doing well. I would like to go over some details. Alan mentioned some of the dollar figures related to PPP, and Jerry may have discussed the margin. Can we start with the dollar amount of PPP loans that you currently have on the books? How much has been forgiven so far, and what do you expect will be forgiven? How do you view the second round compared to the first? Also, could Jerry provide some insight into the margin at 4.09%? Is there any PPP fee accretion included in that figure? What do you anticipate that PPP fee accretion will be over the next quarter or two? Thank you.

I'll let Alan talk about the PPP situation, and Jerry can go right after that.

Good morning, Kevin. We had $83 million in total PPP outstanding at the end of the year, with $18 million paid down or forgiven. Most of that was from the forgiveness process. In the fourth quarter, we started focusing more on the borrowers above $150,000 because of the uncertainty about the forgiveness process for those smaller borrowers, which represented a significant portion of our customers. So we focused on the larger ones, had quite a few of those forgiven through that process. Now that there is some clarity with the smaller borrowers, we anticipate those to move pretty quickly, since all they have to do is give us a certification rather than provide a bunch of documentation, which was required early on. We believe that will pick up the new funding for PPP because our desire is to see organic loan growth. For the initial rounds of PPP, thanks to our staff, we partnered with a third party for the production of those loans. We are bringing them in and will earn a referral fee out of that, but we won’t have that on our books; it will allow us to really focus on that non-production pipeline that may have gone into second place while we were working through PPP on the first round.

On the NIM, you asked about the purchase accounting accretion; it contributed about 28 basis points in the fourth quarter from standard accretion, and the pay-off rate was about 10 basis points. While that may sound a little bit high, that was actually down quite a bit from the fourth quarter portion due to pay-offs. We're looking at 14 basis points in the prior quarter for purchase accounting fee accretion to pay-off. PPP fees; we had $816,000 that was recognized in the period; about half of that was due to forgiveness. But we had $18 million in PPP loans forgiven in the quarter.

Okay, so the PPP fees is separate from the 28 basis points, right? That's just purchase accounting?

That's correct, yes.

Okay, so as the remainder of forgiveness plays out over the next quarter or so, I would expect we'll see probably even more recognition of PPP fees in the first quarter and maybe bleeding in the second quarter, but we won't have any of that for the second round since that's just being referred and isn’t on your books, correct?

That's correct. We do have about $1.8 million remaining at the end of the year in unaccredited PPP fees.

Got it. Okay. Maybe if I could just ask one additional question about credit. It sounds like you all feel very good about credit, and the metrics appear very strong. I heard you say you really haven't downgraded many of the deferrals, or forms of deferrals. But what have you generally been seeing in criticized classified assets? Have you started to pivot from deferrals to recognizing some of these more challenged credits as either on watch or putting in special mention? And if you could just also talk about how you feel about the reserve; are we going to be in more of a holding pattern from the reserve at this point or are we slightly building it in the next few quarters? Thanks.

I'll let Alan take that.

As we work through the modifications, we have experienced some downgrades, but none have been classified as criticized. We have moved some loans that were not part of the modification process into a criticized status, but those cases are quite different from what we're discussing regarding modifications. We have downgraded a few loans to special mention, mainly a couple of hotels, which we believe will be fine after the pandemic since they have strong sponsors and solid properties. We continue to receive inquiries and requests for modifications, but not all are approved. As we've mentioned before, we ensure there is a genuine need for those modifications, and often we have encouraged customers to keep making payments, which they have managed to do. Our modifications have decreased and remain around 1%. In terms of reserves, we will continue to evaluate that as the pandemic evolves and vaccines are distributed. Currently, we believe we have taken a conservative approach in building our reserves and feel we have an adequate level. Excluding PPP loans, our reserve stands at 1.67%, a solid percentage against loans at this time, based on our strong credit metrics. Non-performing loans are not significantly increasing; in fact, they are declining, with overall charge-offs at just 1% for the year, which is commendable given the pandemic circumstances. From our perspective, our ongoing evaluation suggests we will maintain our current position since we see our metrics staying below our internal goals. At best, we expect to hold steady and may even see the percentage of loans start to decrease as the economy recovers and our customers continue to perform well. We haven't encountered substantial issues that would warrant further reserve building.

Would you consider it more of your team adjusting to that reserve? It seems very strong, including the fair value discounts, but as those are used up and you start issuing new loans without those discounts, do you anticipate a more gradual release but ultimately growing into that reserve over time?

So Kevin, I see it differently. We probably won't be looking to replace reserves. We need to grow into it. This year, as Alan mentioned, we feel really comfortable with our current position, but I don't anticipate that we'll reach a point where we release reserves. Instead, you can expect to see a provision expense that combines charge-offs and growth, without any releases from reserves.

Great, thanks very much.

And our next question will come from Katherine Miller with KBW. Please go ahead.

Thanks. Good morning, thanks. A lot of more questions were asked, but I have just two quick clarifications. The first is on expenses. I think DeVan, you mentioned that you're targeting about 3% expense growth pace this year, but there are a lot of moving parts because we've got a partial year of FABK and this quarter was higher because of some of the one-time expenses that were brought forward. So is there a way to think about what that 3% growth rate is based off of? Should we look at maybe this quarter, kind of take another one-time, annualized, and then kind of grow it at 3%? Maybe that's where we are?

Yes, that's a great follow-up question. When I talked about 3%, we essentially used the fourth quarter net interest margin run rate. It's important to recognize that, especially for the first quarter, we didn't have First Advantage included in our run rate. What we typically do is build our net interest margin budget based on where we ended up in the fourth quarter, exclude any one-time events, and use that as the foundation for our growth. So essentially, it's the fourth quarter run rate multiplied by 103%, and that's how we arrived at that figure.

Okay, that's really helpful. Thank you. And then, on critical yield, what are your expectations for the level of credible yield we'll see this year?

You want to take that one?

In terms of the purchase accounting accretion, the standard component; it is slowing down. Last quarter, we had 28 basis points; this quarter we're probably going to be in the low 20 basis point contribution from standard accretion. The pay-off; that's anybody's guess. They were 14 basis points in the third quarter and 10 basis points in the fourth quarter; I'd say we'll probably be in the 8 to 10 basis points in the first quarter.

Got it. Just starting in the low 20s, just as a baseline, and then what you'll get some acceleration on top of that and fluctuate?

Yes.

Great. Okay, that's all I've got. Thanks. Congrats on a great quarter.

Thank you.

And our next question will come from Feddie Strickland with Janney Montgomery Scott. Please go ahead.

Hey, good morning, guys. I'm surprised no one's asked this yet, but what's your outlook on mortgage? You guys had a great quarter, again in mortgage, and just kind of looks like you've still got a lot of mortgage loans held for sale. I was just wondering what the outlook for that is?

You know, the mortgage business is notoriously hard to forecast because it's so dependent on the rate environment and a lot of factors that could change from quarter to quarter. But we're expecting, at least in the first quarter of 2021, another really strong quarter from a revenue and bottom-line standpoint. The correspondent platform that we've spent some time building out last year didn’t really see the benefit early on, because you remember when the pandemic struck, the capital market just froze. A lot of momentum, however, is coming out of that as the capital markets have opened back up, and we're seeing continued demand for yield, driving mortgage loan sales for the last couple of quarters, and we see that continuing in the first quarter. That’s one piece of our business. The other is just normal retail mortgage business, which for us is centered around Middle Tennessee and Chattanooga. We see a pretty good year ahead. I don't know exactly how we'll wind up with retail, but rates remain low, and probably just as importantly, homebuilding activity, especially here in Middle Tennessee, continues at record levels, driven by mortgage rates. Nashville is benefiting from a lot of migration from other areas. Earlier this week, U-Haul published their survey for 2020, where they comment on one-way moves; for the first time since I've been following, Nashville was number one on the list for 2020 with a significant number of one-way moves in from Los Angeles and Chicago. People are moving here; they want to live in a business-friendly environment, with a modest cost of living, and low tax rates. I expect this trend to continue, which will drive mortgage business as well. So I'm quite optimistic for the first quarter to two quarters as mortgage business goes; it’s important to note that even though mortgage results contribute to some of our metrics, they are not additive to our earnings until we recapture the cumulative loss that we've incurred. What you see in terms of our return to shareholders right now is just bank operations; but I'm confident in our mortgage results today.

No, that’s great. I also noticed something similar to the U-Haul report, very interesting. Same observations. I guess my final question, I know we’re getting to 11 o’clock here. But I was just wondering whether there is a relative difference in economic activity across your footprint, or are things better in the suburbs versus Nashville proper? How does the outlying area around Chattanooga look, or is it just kind of consistent across the footprint? Just wondering if there is any variation in what you're seeing?

Yes, I think there is. Davidson County, the Metro Nashville market, is probably more restricted in terms of activity than some of the surrounding areas. The counties that are contiguous to Davidson County, one of which is Williamson County, where we operate in Clarksville MSA, and Chattanooga, all seem to be doing very well. The mayors of those counties and their leadership have taken a more circumspect approach, putting fewer restrictions on the economic activity, gatherings, restaurant closings, etcetera. Having said that, Nashville is doing okay. I think we've been fortunate to have a Governor who has not imposed state-wide restrictions; he has let the local leadership, the political and public health officials, make their own decisions. We're starting to see a little more activity coming out of Nashville as well. My goodness, Nashville has had a tough year, not only in terms of the pandemic but also with tornadoes tearing through the area and the explosion on Christmas Eve. Those are challenges that can't overcome the attractiveness of Middle Tennessee. Whether it's Davidson County or any of the other markets where we operate, I think there is a lot of optimism as we head into 2021. We're starting to see a significant drop-off in positive cases over the last four to five weeks. We were running at highs close to 8,000 a day, and now we're back down to about 3,000 to 3,500. I expect to see a relaxing of restrictions on gatherings, even in Davidson County. Nashville is going to come back; it may take until the second or third quarter, but I think the factors driving interest in this area are not going anywhere.

Got you. Perfect. I appreciate all the color. Congrats on a great quarter, guys.

Thank you, Feddie. Appreciate it.

And this will conclude our question-and-answer session. I'd like to turn the conference back over to DeVan Ard for any closing remarks.

Thank you, operator. I just want to thank everybody for being with us this morning. We are very proud of our team and how our community has battled a lot of issues over the last 12 months that are related or unrelated to COVID. I remain very optimistic about our company and our future. Thank you all for following us. Feel free to give any of us a call if you have any follow-up questions. And with that, operator, we'll adjourn the meeting for the day.

The conference has now concluded. Thank you for attending today's presentation. At this time, you may now disconnect.