SBSI - NASDAQ

Good day, and thank you for standing by. And welcome to Southside Bancshares, Inc. Second Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. [Operator Instructions] I would now like to introduce your host for today's call, Lindsey Bailes, Vice President of Investor Relations. Please go ahead.

Thank you, Justin. Good morning, everyone, and welcome to Southside Bancshares' second quarter 2023 earnings call. A transcript of today's call will be posted on southside.com under Investor Relations. During today's call and other disclosures and presentations, I will remind you that any forward-looking statements are subject to risks and uncertainties. Factors that could materially change our current forward-looking assumptions are described in our earnings release and our Form 10-K. Joining me today are Lee Gibson, President and CEO; and Julie Shamburger, CFO. First, Lee will share his comments on the quarter and then Julie will give an overview of our financial results. I will now turn the call over to Lee.

Thank you, Lindsey. Good morning, everyone, and welcome to Southside Bancshares' 2023 second quarter earnings call. This morning, we reported net income of $24.9 million, earnings per share of $0.81, a return on average assets of 1.29%; a return on average tangible common equity of 18.59%; and continued strong asset quality metrics. During the quarter, we experienced strong loan growth, 80% of which occurred during June. In fact, approximately 52% of the second quarter loan growth occurred in the last two weeks of June. Our loan pipeline remains strong, and we are projecting healthy construction loan advances for the remainder of the year. We are continuing to budget for overall loan growth for 2023 in the high single-digits. Our net interest margin held in well during the quarter, contracting only 4 basis points. Late second quarter loan growth, along with our interest rate swaps, fair value hedges and Fed term funding should help mitigate most, if not all, any further net interest margin compression during the third quarter. Linked quarter deposits, net of brokered and public fund deposits, increased $73 million or 1.6%. In July, we began offering [indiscernible] to deposit customers with deposit insurance concerns. We anticipate this will assist with deposit growth in the coming quarters. We are glad to report that the markets we serve remain healthy and continue to grow and perform well. I look forward to answering your questions following Julie's remarks. And I will now turn the call over to Julie.

Thank you, Lee. Good morning, everyone. Welcome to our call today. We are pleased to report second quarter net income of $24.9 million, a decrease of $1.1 million on a linked-quarter basis and diluted earnings per common share of $0.81, a decrease of $0.02 or 2.4% linked quarter. We had strong loan growth in our loan portfolio this quarter with an increase of $176.4 million or 4.2% linked quarter, driven by our real estate portfolio with an increase in CRE of $109.5 million and a $65.5 million increase in construction loans. The interest rate of loans funded during the quarter was on average approximately 7.5%. Asset quality metrics remained strong with nonperforming assets of $3.1 million or 0.04% of total assets at June 30th. At June 30th, our allowance for loan losses as a percentage of total loans was 0.84%, a slight decrease compared to 0. 87% on March 31st due to second quarter loan growth. Our allowance for credit losses decreased $381,000 for the linked quarter to $39.5 million. As of June 30th, our loans with oil and gas industry exposure were $108.5 million or 2.5% of total loans. Our securities portfolio decreased $97.4 million or 3.5% on a link-quarter basis. The second quarter decrease was driven primarily by sales of AFS securities. The sales of the AFS securities resulted in a net realized loss of $3.5 million. Additionally, in the second quarter, we recognized a net gain of $2.6 million on the sale of correspondent bank stock. There were no transfers of AFS securities during the second quarter. At June 30th, we had a net unrealized loss in the AFS securities portfolio of $69.7 million, compared to $61.9 million last quarter, an increase of $7.8 million. As of June 30th, the unrealized gain on the fair value hedges in municipal securities was approximately $27.9 million compared to $9.8 million linked quarter, which partially offset the unrealized losses in the AFS securities portfolio. As of June 30th, the duration in the entire securities portfolio was nine years and the duration of the AFS portfolio was 6.7 years. Our mix of loans and securities shifted to 62% and 38%, respectively, compared to 60% and 40% on March 31st. Deposits increased $279.5 million or 4.8% on a linked-quarter basis, driven by an increase in broker deposits. Our capital ratios remained strong with all capital ratios well-above the capital adequacy and well-capitalized thresholds. Liquidity resources remained solid with $2.5 billion in liquidity lines available as of June 30th. During the second quarter, we completed the purchase of all the remaining authorized shares of our common stock in our stock repurchase plan, a total of 618,831 shares at an average price of $30.27. In our earnings release this morning, we reported that our Board of Directors approved a stock repurchase plan on July 20th, authorizing a repurchase of up to one million shares of the company's outstanding common stock. As of today, no shares have been purchased under this recently approved stock repurchase plan. Our tax equivalent net interest margin decreased four basis points on a linked-quarter basis to 3.17% from 3.21% primarily due to larger average rate and balance increases on our interest-bearing liabilities when compared to the interest-earning assets. The tax equivalent net interest spread decreased for the same period by seven basis points to 2.55% down from 2.62%. For the three months ended June 30th, net interest income increased $563,000 or 1.1% compared to the linked quarter. We also recorded $81,000 in purchased loan accretion this quarter. Non-interest income, excluding the net loss on the sales of the AFS securities and equity securities decreased $486,000 or 4.1% for the linked-quarter. The result of BOLI income related to death benefits of $950,000 realized in the first quarter, partially offset by increases in brokerage services and other non-interest income. Non-interest expense increased $144,000 on a linked-quarter basis to $35 million. For 2023, we have budgeted approximately $35.5 million in non-interest expense each quarter. Our fully taxable equivalent efficiency ratio increased to 51.06% as of June 30th from 50.99% as of March 31st. Income tax expense increased slightly to $4.6 million, and our effective tax rate increased to 15.5% for the second quarter from 14.9% in the previous quarter. At this time, we estimate an annual effective tax rate of 15.5% for 2023. Thank you for joining us today. This concludes our comments, and we will open the line for your questions.

Thank you. [Operator Instructions] And our first question comes from Brady Gailey from KBW. Your line is now open.

Thanks. Good morning guys.

Good morning.

Good morning.

So it was great to see the margin hold in so well. It's only down four basis points, linked quarter a lot better than some of your peers. And it sounds like you expect the margin to be stable going forward. Is that the right way to think about the margin? And can you just talk about any impact? I know you have some hedges, any impact from those hedges over time on the margin?

We're thinking -- I agree that we're thinking that the margin holds steady, especially in the third quarter. And with the interest rate hedges that right now are around $760 million. And I don't think we have any that roll off the remainder of this year. There's an average rate there of 3.19%. And then with our Fed term funding from the Fed term window, $296 million at quarter end at average rate of 4.46%. That gives us a little over $1 billion of money that's locked. Combine that with the non-interest-bearing deposits that we have in the capital, that gives us pretty good solid funding base at this locked in. And so we feel good about being able to hold the margin where it is, especially with the loans that we put on.

All right. And then I heard the expectation for high single-digit loan growth this year. So, if you look at deposits, they've been kind of flat, if not down a smidge year-to-date. So, how do you think about deposit growth going forward? And your loan-to-deposit ratio is 7%, which is pretty low. How high would you be willing to allow that to go?

Yes. If our loan-to-deposit ratio got up into -- as long as it's stay below 90%, I think we'd be comfortable, and we're a long way from that. In terms of the deposit growth for the rest of the year, we feel like it's not going to be robust because raising deposits right now is an expensive proposition, but we feel like we can increase deposits some. We funded almost $100 million of our loan growth during the quarter by reducing securities. So, that is something that we can do in the coming quarters as well. So, overall, if we can continue to have the loan growth that we think we're going to have then shifting some of those assets from the lower investment category up into the higher loan category and then with some deposit growth, we should be able to easily fund those loans.

All right. And then finally for me, it was good to see the new buyback authorization and the completion of the prior one. You guys have been pretty consistently buying back your stock at least the last three quarters, is there any reason to think that that would slow in the back half of this year?

We'll just have to see what price the stock is at, and we're going to buy as we feel like it makes sense based on where the price is and -- so I don't anticipate it will slow. It just really is going to depend on market conditions.

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

All right. Thank you, Brady.

And thank you. And our next question comes from Graham Dick from Piper Sandler. Your line is now open.

Hey, good morning everybody.

Good morning Graham.

So, I just wanted to kind of touch a little bit more on the deposit side of things as it pertains to the mix going forward. I know you said you think you can grow deposits a little bit. I'm just trying to get a sense for what you guys are seeing on the non-interest-bearing side? And then also where you guys think you might be able to grow? Because it looks like the majority of this -- the growth this quarter was from brokered. So, I'm just trying to get a sense of where you think -- or when you might think non-interest-bearing kind of slows down on the outflows and then core deposit growth can resume and kind of take the baton from brokered in a sense?

Right. Now, the core deposits, we feel like grew about $73 million during the quarter. The increase in broker deposits, I think you can see kind of a corresponding decrease in Fed borrowings and home loan bank borrowings. Basically, we were able to -- we have to fund our interest rate swaps at $760 million with some type of wholesale funding. And so we were able to get cheaper funding to fund those swaps through the brokered CD market than we were through the Fed discount window. And so it basically moved from one place to another. And it was just where the cheapest funding is. But those -- that funding is basically locked in at a fixed term rate. We're hoping to be able to continue to have that core deposit increase. And some of it will likely be in that non-interest-bearing deposit as we bring on new loan relationships. We want to bring on deposit relationships as well with some of those loan relationships. So we hope to basically grow those core deposits in all of the different categories.

Okay. All right. Would it be safe to assume then that we're getting closer to the bottom of non-interest-bearing kind of remixing into some higher cost stuff? I mean it sounds like you bring on a lot of relationships right now. So figure kind if you bring on the full relationship with the non-interest-bearing piece, it could help slow things down on that front. Is that fair to assume?

That is correct. And some of the non-interest-bearing on the commercial side are tied to analysis and some of that decrease you've seen is the fact that they don't need to carry as many balances in order to pay their analysis fees. So in higher interest rate environments, you typically see some deterioration in the non-interest-bearing deposits on the commercial side.

Right. Okay. Thanks. And then I guess just shifting bigger picture. As we look at the balance sheet as a whole, I know you said there is obviously a shift towards loan book out of the securities book this quarter. Do you guys have any like near-term or medium-term targets for the percentage of assets you would like in loans?

Our target for a long time has been to get to a 70% asset at 70% loans and 30% securities. I think we moved to 62, 38 this quarter. So we -- I think we've moved move the needle about 2% in each direction towards getting there, but that would be our goal. And I think for us to do that in an orderly fashion, it would probably take another 1.5 years to two years to do that, assuming we continue to have loan growth we've had.

Okay. And then, yes, just -- you kind of gave a good segue there. But on the loan growth front, I know you said a lot of that came in at the very end of the quarter. Was that like one or two larger relationships, or is that a pretty granular amount of growth that came in there during the last two weeks? Just trying to get a sense for I guess, 3Q versus 4Q 2023 loan growth outlook?

There were some larger loans that came in, but it was just -- everything seemed to kind of settle and close in June for some reason. And we did have some closings in the first two months that were holdovers from the first quarter and then we've -- even some of the stuff that closed in June was a holdover from the first quarter. So it was just kind of one of those odd things that a lot of the loan closings just happened to fall in June, but a few of them were larger loans that closed.

Okay. That’s helpful. Thank you, guys. I appreciate it.

And thank you. And one moment for our next question. And our next question comes from Brett Rabatin from Hovde Group. Your line is now open.

Hey, good morning. Thanks for the question. I wanted to, I guess, first start with the taxable portfolio. The 45 basis point increase in that linked quarter. I know there's some hedges. I don't know if that flows through that line item. Can you talk maybe about the improvement in that piece of the securities book?

The tax exempt that went from 3.95% to 4.15% [ph], is that what you're talking about on a linked-quarter basis?

Well, I guess…

Oh, you're talking about the taxable, that has to do with the $300 million in T-bills that we have. And so you can see the increase there, and those -- that -- basically, we were in T-bills and we're yielding a little over 5%.

Okay. And then I was hoping you could talk about the construction portfolio, what's the makeup of the construction book and what you were funding here this quarter in that piece of the loan portfolio?

Probably the largest part is multifamily. We do have some industrial that we funded, and then we continue I would say the homebuilder construction portfolio probably remained fairly similar to what we had in the first quarter. So the largest portion of it would be multifamily and the next industrial.

Okay. And then I wanted to make sure I understood the reconciliation non-GAAP last page of the press release. You've got the net of the nonrecurring income at $226,000, but it would seem like you had the securities losses of 34.55 [ph] and the gain of 26.42 [ph]. I don't know if there's a strange tax rate on one of those things, but it would seem like that would have netted to a bigger number? Any color on that, Lee?

Brett, I'll give you some color on that. During the quarter, we had an opportunity to purchase a piece of our sub debt, a $5 million piece and we did so at a discount of about $587,000. And so for the purpose of the efficiency ratio, we did exclude it from nonrecurring income. So that was the missing piece that you don't have, the $587, 000.

Okay. That's helpful. And then when I look at the linked quarter improvement in the FHLB funding costs. Is, that just due to the duration of those being short-term and you've re-upped them, or any color around that line item?

Okay. Just can we me get down here.

So linked quarter went from…

Right, that has to do with the hedges. And we basically weren't borrowing overnight as much from the home loan bank, and we were borrowing overnight from the Fed discount window.

Okay. So, none -- I'm sorry, go ahead.

Go ahead. No, go ahead.

I was going to ask the -- so none of the -- if I have it right, the duration of all of the borrowings is less than six months, you don't have any longer-dated borrowings at this point on the balance sheet?

We don't -- we have longer-dated funding through the swaps. It's the funding we have to renew every 30 to 90 days, depending on what swaps tied to. But with a swap, we're paying a fixed rate. We're receiving a floating rate on the swap and then we're paying out the floating rate on the borrowings. So, it nets out -- there's a few basis points in there, but it basically nets out to our cost as the fix that we're paying on the swap.

Okay, that’s helpful.

And those swaps have about a two and a half year duration.

Okay, great. That’s what I was looking for. Thanks so much for the color.

All right.

And thank you. And our next question comes from Matt Olney from Stephens. Your line is now open.

Hey good morning everybody.

Good morning Matt.

I want to go back to the loan growth commentary, and you mentioned that the closing rates were particularly strong, just the last few weeks of the quarter. Any other themes or takeaways for us within the loan growth as it relates to borrowers? Is there any more optimism would you say, or is it just more about the closing timelines? And then I guess, related to that, any -- was any of the growth in the second quarter from taking market share from other banks that may have stepped back in recent months?

Answer to the last question, I would think so because there are some less banks out there pursuing loan growth at this point in time. And in terms of the borrowers, there seems to be optimism. It's requiring a lot more equity going into these projects, 50% equity is not uncommon. And in some cases, we have as much as 60%, 62% equity going into some of these deals. So, my guess is that they're extremely optimistic if they're willing to put that much equity into a project at this point.

Okay. What about on -- sticking with loan growth, what about the back end of that, thinking about loan paydowns. Any notable trend you're observing there as some of these construction loans are completed?

We have probably three or four construction projects that should finish sometime later in the year. I think -- most of them are slated to be late third quarter or sometime during the fourth quarter. And we would anticipate that at least a couple of those would probably prepay. And it's possible all four of those could prepay before year-end. But usually, they've got to get to stabilization, but that takes a little while. And this, unlike back during the pandemic when you were seeing things pay off before they reach stabilization, now typically, they're needing to reach stabilization. So like I said, we might see a couple of pay-off, but my guess is that would be about it.

And those projects you mentioned, are those multifamily projects?

Yes, they are.

Okay. That's helpful. And then, I guess, switching over to fees. Anything notable there? I think you called out some one-time items. Anything else notable from the core fees or any kind of outlook there you can share?

No, I don't think there were any other notable fees this quarter.

Okay. Go ahead.

No, I was just going to say, last quarter, we also had the debt benefits on our BOLI that did obviously not reoccur again this quarter. So that was part of the decrease on that.

Okay. Got it. That's helpful. And then I think one of the comments I made earlier was as far as kind of funding loan growth that perhaps securities can help fund the loan growth, just want to dig in there, that be more security maturities that are upcoming, or would you look to sell some securities in the back half of the year to help fund that loan growth?

We've got short-term T-bills of around $300 million that we could let go of any time we wanted. And then we've sold securities, a fair number of securities in the first half of this year. And we wouldn't be bashful about selling some of those in the back half of the year if it made sense.

Okay. And then I think you disclosed that the unrealized loss position of the AFS securities portfolio was around $70 million. Did I capture that right? And I guess...

That is correct.

Okay. And I guess, how do I just think about kind of the recapture of that the next several years? Is there any guidepost you give us to think about kind of recapturing that?

The recapture would come either through maturity or through a change in interest rates down. In addition, on that, we do have on our fair value hedges. We do have a -- I think it was a $27 million unrealized gain that helps offset that $70 million. So when we look to sell securities, we're able to take that into consideration as well.

Okay. So what's the, I guess, the total AOCI mark at this point? It was probably disclosed I just didn't see it in there.

You're going to have to ask. Julie is looking for it.

Okay.

At June 30, the AOCI is a debit of 115,693 on loss, I should say. $125.9 million is unrealized also on securities, and that includes transferred and then a gain of 29.4% on derivatives and then AOCI to the negative 19.2 related to the retirement plan.

Okay. Got it. All right. That’s all for me. Thanks for taking my questions.

All right. Thanks Matt.

And thank you. And one moment please. And we have a follow-up question, one moment, please. And we have a follow-up question from Brett Rabatin from Hovde Group.

Hi. Julie, just one clarification on the expense guidance for the full year. I think you said $35.5 million per quarter. Does that mean you add those up to $142 million for the full year, or is that $35.5 million for the back half of the year, each quarter?

I think it's just -- well, it's for the remaining part of the year.

Okay. Not necessarily for the full year, okay.

Yeah. Basically, we're looking at $71 million for the remainder of the year.

Okay. Thanks for that clarification.

And thank you. And I am showing no further questions. I would now like to turn the call back over to Lee Gibson, President and CEO, for closing remarks.

Thank you, everyone, for joining us today. We appreciate the opportunity to answer your questions along with your interest in Southside Bancshares. In closing, we're excited about our prospects for the remainder of 2023 and look forward to reporting third quarter results to you during our next earnings call in October. Thank you.