Earnings Call Transcript - WSFS Q4 2022

Operator, Operator

Welcome to the WSFS Financial Corporation Fourth Quarter 2022 Earnings Call. I would now like to turn the call over to your host for today, Mr. Dominic Canuso, Chief Financial Officer. Please proceed.

Dominic Canuso, CFO

Thank you, Angela, and thanks to all of you for taking the time to participate in our call today. With me on this call are Rodger Levenson, Chairman, President and CEO; Art Bacci, Chief Wealth Officer; Steve Clark, Chief Commercial Banking Officer; and Shari Kruzinski, Chief Consumer Banking Officer. Before I begin with the remarks on the quarter, I would like to read our safe harbor statement. Our discussion today will include information about our management's view of our future expectations, plans, and prospects that constitute forward-looking statements. Actual results may differ materially from historical results or those indicated by these forward-looking statements due to risks and uncertainties, including, but not limited to, the risk factors included in our annual report on Form 10-K and our most recent quarterly reports on Forms 10-Q as well as other documents we periodically file with the Securities and Exchange Commission. All comments made during today's call are subject to the safe harbor statement. I will now pass the call over to Rodger.

Rodger Levenson, Chairman, President and CEO

Thanks, Dominic. Consistent with our recent practice on the fourth quarter earnings call, our remarks today will be divided into two sections. I will provide brief commentary on the fourth quarter and full year 2022 results and then turn it over to Dominic for our 2023 outlook. After our prepared remarks, we will open it up for Q&A with the team. 2022 was an important year for WSFS. Since the closing of our combination with Bryn Mawr Trust last January, we built momentum and our financial performance improved each quarter, culminating with the strong fourth quarter. This past quarter's results were highlighted by our core net interest margin of 4.49%, which expanded 50 basis points or 13% higher than the third quarter. Loan growth was solid, and we continued to exhibit the value of our diversified fee increase. The trend of absorption into the economy of the excess liquidity build-up during 2020 and 2021 was evidenced by the decline in deposits. Excluding lower institutional trust deposits due to reduced capital markets activity and the normal seasonal runoff of municipal deposits, total customer deposits declined approximately 2% linked quarter or 6% annualized. Credit costs were modestly higher due to loan growth and the economic forecast and all credit metrics remain at favorable levels. Expenses remain well managed and reflect the continued impact of higher rates on Cash Connect funding expenses that are offset in our fee revenue. In summary, our operating performance improved significantly from the third quarter with core EPS, core ROA, and core PPNR increasing 12%, 13%, and 14%, respectively. Although we expect economic growth to be muted in the near term, we enter 2023 with the BMT Bank integration activity successfully completed and positioned very well to optimize the significant franchise investments over the past several years. Dominic?

Dominic Canuso, CFO

Thanks, Rodger. On Slide 4 of the earnings release supplement presentation, which is available in the Investor Relations section of our company website, we lay out our expectations and outlook for 2023, which I will walk through now. Our assumptions are based on a relatively flat yield environment with Fed funds ending the year at 4.75% and flat GDP growth with mild recessionary growth rates in the second half of the year. Net loan growth is expected to be in the mid-single digits with growth across all of our lending portfolios. Consistent with our current loan mix, C&I lending is expected to be a meaningful contributor to overall growth, along with our continued success from our NewLane leasing business both driving mid- to high single-digit growth in our total commercial portfolio. While remaining excess liquidity could result in some elevated payoffs, portfolio pipelines and our competitive market position provide for anticipated continued growth. We expect the consumer loan portfolio growth to moderate in 2023 relative to 2022 in consideration of the overall economic outlook. Deposits are expected to remain relatively flat by year-end. While we have benefited meaningfully from our customers' outsized excess liquidity, demonstrated by our lower-than-peer average loan-to-deposit ratio, including the current quarter 73%. We anticipate this to normalize throughout 2023. Of course, our expectations are subject to the somewhat unpredictable nature of the current macro liquidity environment. With that said, we have a well-diversified and loyal customer base across all of our primary businesses, and we will be competitive and prudent in our deposit pricing to retain our existing customers where appropriate and to grow new customers. This is consistent with our performance to date as demonstrated by our through-the-cycle beta of 15%, which we expect to increase to approximately 35% by the end of the year. As we have discussed over the past two years, our strategy has been to deploy excess liquidity into our investment portfolio, which historically was in our target range of 16% to 18% of total assets and has grown to be in the high 20%. This has provided optionality given the unpredictable nature of the environment and has served us well, generating over $40 million of pretax income in 2022. With the normalization of excess liquidity, we will let the investment portfolio cash flow back down to our target level to fund loan growth. The portfolio currently cash flows at a run rate of approximately $500 million to $600 million per year. Full year net interest margin is expected to be in the 4.35% to 4.45% range. We are assuming 225 basis point increases in short-term rates early in the year, followed by a 125 basis point decrease late in the year. We will continue to benefit from our predominantly variable loan portfolio and the asset mix shift from our investment portfolio to loans. These will be offset by the previously mentioned deposit betas and a return to a modest level of wholesale borrowings. Core fee revenue growth is expected in the mid- to high single digits driven by Cash Connect's variable rate fee pricing and franchise growth and also supported by modest growth in mortgage banking and capital markets. Our fee income is expected to continue its resiliency through these economic and interest rate environments, generating a core fee revenue ratio in the mid- to high 20%. Provision costs are expected to be between 40 to 50 basis points of average loans for the year primarily driven by loan growth and the forecasted economic environment. This is supported by the beginning of the year with strong current and leading portfolio credit metrics and an ACL coverage ratio of 1.17%. Our core efficiency ratio is expected to be in the mid-50s as we continue to invest prudently into the growth of the overall franchise, particularly in talent and benefits and our technology stack to enable internal efficiencies and scale and to continue to enhance our customer experiences across our delivery channels. 2023 full-year core ROA outlook is around 1.50%, with a robust PPNR as a percentage of assets of around 2.3%, which reflects the strength of our business model, including our broad lending products and the highly diversified and resilient fee revenue base. 2023 continues the momentum from 2022 and we are excited about the strong growth potential from our unique strategic market position in both our regional and national franchises. We will now open the line to answer any questions you may have.

Operator, Operator

Your first question comes from the line of Frank Schiraldi with Piper Sandler.

Frank Schiraldi, Analyst

Dominic, regarding the mid-single-digit loan growth guidance and the cash flow from the securities book, it seems to me they are largely offsetting each other. You also mentioned some moderate level of borrowings, so I wanted to clarify my modeling approach.

Dominic Canuso, CFO

Yes, I think you summarized how they come together. The key issue will be the timing throughout the year. We expect that while the cash flow from the investment portfolio is between $40 million to $50 million a month, the timing of loan growth might lead to a different pace. We plan to fund that based on the excess liquidity runoff with wholesale borrowings.

Frank Schiraldi, Analyst

Okay. And then in the past, when you guys have talked about loan growth, you've excluded resi runoff. I don't know if maybe that's just sort of almost complete now. So it just doesn't move the needle or what's the thinking there?

Dominic Canuso, CFO

Yes. As you may recall, since beneficial and through BMT, we've had some runoff portfolios, including the acquired residential portfolio. For the most part, they have run their course, and the remaining acquired residential portfolio is nominal relative to the attrition rate to impact the entire story. Plus, in select places and working with some of our customers, we are retaining some ARM mortgages that will supplement that portfolio. So we're now at a point where we'll be speaking to total loan growth from here on out.

Frank Schiraldi, Analyst

Okay, great. Lastly, you mentioned the efficiencies in the mid-50s on the higher revenue guidance, which was a bit surprising to me. However, you indicated further investment into the franchise. I'm curious if this is a reasonable expectation for WSFS's long-term operations. Additionally, does this account for any potential cost savings in the Wealth Management business in 2023 following the merger, or is that something that will come later?

Dominic Canuso, CFO

We expect a mid-50s efficiency ratio to be sustainable for two main reasons: our high-touch customer service across our banking franchise and our strong fee income ratio. In both Wealth and Cash Connect, we've noted a higher-than-average efficiency ratio compared to other banks. We are continuing to invest in these areas. Our starting point was particularly low in 2022 due to a higher vacancy factor in the labor market. Regarding cost synergies, we have realized all the BMT cost synergies we expected, mainly from the bank side, with some coming from the wealth side, all of which are reflected in our run rate. The business remains focused on finding operational opportunities, though there are no expected restructuring benefits.

Operator, Operator

Your next question comes from the line of Feddie Strickland with Janney Montgomery Scott.

Feddie Strickland, Analyst

I was just curious with respect to loan guidance, should we expect loan growth to be more heavily weighted towards the earlier part of the year assuming an economic slowdown later in the year? Or do you think it will be fairly consistent?

Stephen Clark, Chief Commercial Banking Officer

Feddie, this is Steve Clark speaking. I think our pipeline has been pretty consistent, the 90-day weighted average for the past several quarters of just under $300 million. So that's our expectation going forward. No real front-loading. We're hoping that we'll continue to have a fairly robust pipeline and generate loan growth through the whole year.

Feddie Strickland, Analyst

Got it. And then switch to deposit costs. You guys had a lot of success this quarter holding down deposit costs. Can you talk a little bit more about your deposit strategy for the year and how your different business lines like Wealth play into that?

Dominic Canuso, CFO

Sure. Yes. I would say, first, setting the landscape for the Greater Philadelphia market is predominantly driven by the larger banks that aren't rushing to change their rates. We do see some competition from smaller banks who have higher loan-to-deposit ratios. But across the board, we have a very consistent and loyal customer base, and we provide a full suite of products and services from variable rate deposits all the way to higher-priced CDs. And so we continue to work with our customers to leverage the right product for the interest rate expected and for their needs. And we expect to be competitive to retain our existing customers and to be able to grow new customers in this market throughout the year. We continue to benefit from a well-diversified deposit base with more than 50% of our deposits coming outside of our consumer and branch network with $2 billion coming from Trust and Wealth. And we do expect both from the Wealth side being able to grow deposits, particularly in this environment where there's a heightened focus on Wealth Management. And over the long term, while there may be some quarter-to-quarter variation in the trust deposits, we do see opportunity to continue to take market share and grow those over the long run. But those are all included in our deposit outlook for the year.

Feddie Strickland, Analyst

Got it. Dominic, that's helpful. And just one more follow-up. Just following up on an earlier question, given the cash flow of the investment portfolio we've already discussed and the excess liquidity runoff, it sounds like we might continue to see a limited amount of earning asset decline in the next couple of quarters. Is that a fair assessment?

Dominic Canuso, CFO

It really will be a function of the trend of the liquidity environment, but we would expect our total assets and interest-earning assets to be relatively stable throughout the year.

Operator, Operator

Your next question comes from the line of Michael Perito with KBW.

Michael Perito, Analyst

Just a couple. First, just a point of clarification, Dominic, on the 2023 guide, Steve kind of addressed the loan growth. But where else does the mild recession assumption show. I mean, obviously, in the 40 to 50 basis points provisioning I'd imagine. But does it impact anything else like in terms of NIM or efficiency that we should just be aware of if the macro kind of shifts more favorably?

Dominic Canuso, CFO

Yes. I think some of that will show up in our fee income, particularly mortgage banking and the wealth side of our Wealth & Trust business on the AUM side. So they could have upside relative to our outlook if the economic forecast becomes more optimistic.

Michael Perito, Analyst

Okay, that makes sense. Rodger, I have a big picture question. Reflecting on the past few years, even though the economic environment is uncertain, this seems to be one of the clearer forecasts we've had. There’s no runoff and the accretable yield in the margin is either very small or non-existent. I'm looking at these return targeted metrics, specifically the 150 return on assets and the 230 PPNR return on assets. Are these the metrics you are focusing on right now? Is the goal to grow the franchise overall while maintaining these metrics? Is that the right way to strategically view your current position, or would you describe it differently?

Rodger Levenson, Chairman, President and CEO

I believe that accurately reflects our current situation. It highlights the fact that there has been considerable fluctuation in the numbers over the past couple of years due to the beneficial and Bryn Mawr deal, which is now behind us. We are clearly experiencing the advantages of the current rate environment. As you know, Mike, our management strategy is to position ourselves as a top performer in our peer group, measured by return on assets, and we believe we have achieved that. Our objective moving forward is to continue our growth from this point.

Michael Perito, Analyst

Perfect. And then just last for me, and I'll step back, is on the buybacks, you saw some authorization here, you've been active. I guess the question is, how do you balance? It sounds like your base case is for the mild recession in the back half of the year, capital should build throughout the year, but still probably not as high as you guys are used to it being. So how do you balance that with the ongoing appetite for buybacks over the course of the year?

Dominic Canuso, CFO

Sure, Michael. This is Dominic. As you mentioned, we do have 9% share authorization. We were very heavy participants in share repurchases throughout 2022, particularly in the first three quarters as we caught up to some share repurchases that we pended during the waiting period for the BMT acquisition. As we've said, our historical practice with regard to capital is a waterfall approach, where we evaluate the overall economic environment and protect the balance sheet with our capital, then we look at organic growth and then to the extent we have additional capital that is not needed relative to those first two tiers, we would then redeploy it. Now we do anticipate routine share repurchases regardless of price. And we would expect between that and our dividend, we would return about 35% of our core net income through the cycle and on average throughout the year. Incremental to that would be dependent upon that waterfall of capital demand need followed by our IRR model looking at our share repurchase plan, and we will take that on a quarter-by-quarter basis as we evaluate the overall economy.

Operator, Operator

Your next question comes from the line of Manuel Navas with D.A. Davidson.

Manuel Navas, Analyst

The deposit beta that you have projected out, have you already started to increase the deposit costs? Or are you just kind of have that out there to anticipate some future deposit cost increases?

Dominic Canuso, CFO

Sure. In our materials, you'll see a chart on our NIM slide in the supplement that demonstrates the last few quarters deposit betas and deposit pricing, and they have continued to tick up. In fact, at accelerated rates. So we have seen through the cycle deposit betas of 15% by year-end. So we have been judiciously moving pricing, particularly on our CDs and the shorter-term CDs to attract and retain deposits given the anticipated rise and potential stabilization of the interest rate environment. And we expect through some rack rate movements and product shifting exception pricing to deliver that deposit beta in the mid-30s by the end of this year.

Manuel Navas, Analyst

Do you have a spot rate for the end of the year?

Dominic Canuso, CFO

We have not disclosed that, but we do think, relative to where we are today, I think the deposit beta would provide that detail for you.

Manuel Navas, Analyst

What type of offers are you putting out there? And what kind of success rate have you already seen for attracting deposits?

Dominic Canuso, CFO

Yes. I think one of our leading products right now is an 11- to 12-month CD at 4% to retain short term. And while we assess kind of expectations from customers looking for that higher rate, and that will give us time to evaluate the broader market trends. That's been very competitive. And then we have some other variable rate products that customers are shifting to. And to the extent they are looking for something more than that. We are working and the consumer and commercial teams are working with Wealth to look at other products, including treasuries to bring the value in the near term, but retain the customer.

Manuel Navas, Analyst

That's helpful. I have a small question regarding the loan loss reserve related to the strong consumer loan growth in the consumer partnership. What kind of reserve is required for the Spring EQ product specifically? I understand you have the overall figure at 4.4%, but I'm asking about that particular product.

Dominic Canuso, CFO

Yes, it's a secured product that generates cash flows quickly, and the losses have been relatively low, typically in the low to mid-single-digit range. This is reflected in the consumer line item on the loan loss reserve slide.

Operator, Operator

And with no further questions in the queue, I would like to turn the conference back over to Mr. Canuso.

Dominic Canuso, CFO

Thank you all for joining the call today. If you have any specific questions following this meeting, feel free to reach out to me directly. Also, Rodger and I will be attending conferences and investor meetings throughout the quarter, and we look forward to meeting with many of you then. Have a good day.

Operator, Operator

This concludes today's conference. You may now disconnect.