USCB - NASDAQ

Welcome to the Third Quarter 2024 USCB Financial Holdings Inc. Earnings Conference Call. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Luis De La Aguilera, Chairman and CEO. Please go ahead.

Good morning, and thank you for joining us for USCB Financial Holdings' third quarter 2024 earnings call. With me today reviewing our Q3 highlights is CFO, Rob Anderson, and Chief Credit Officer, Bill Turner, who will provide an overview of the bank's performance, the highlights of which commenced on slide three. We are very pleased to report another consecutive record quarter of fully diluted earnings per share, reaffirming the soundness of our strategic initiatives and operational performance. Supported by the strength of Florida's economy, USCB continued posting strong growth in assets, deposits, diversified quality loans, and profitability. These results reflect the steady execution of a business plan that focuses on organic growth, supported by diversified commercial banking initiatives designed to deepen existing relationships and develop new ones. In reviewing our Q3 highlights, I will comment on a select few data points as CFO Anderson will further detail our growth, profitability, capital, and liquidity positions. Supported by our various deposit aggregating business verticals, the deposits increased $206 million to $2.1 billion or 10.7% compared to the third quarter of 2023. These business lines, which include both association and correspondent banking, as well as our focus on developing the deposit-rich attorney client market, have grown to represent 31% of total deposits as of the end of the third quarter. These business verticals also contribute to the continued diversification of quality loan production, generating non-CRE relationship-focused loans. Average loans increased $267 million or 16.6% compared to the third quarter of 2023. Our loan growth has moved in line with consecutive quarter-over-quarter improvement and average loan coupon rates contributing to profitability. To this end, loan yields increased 16 basis points compared to the prior quarter and 79 basis points compared to the third quarter of 2023. This will be detailed shortly. Speaking of our loan portfolio, I am pleased to report that the bank experienced minimal effects from the damage caused by Hurricane Milton, which on October 9th made landfall along the West Coast of Florida as a category three hurricane. In early preparation for the storm, our credit department identified all the bank's exposure along the projected path of the storm, in the Tampa, Orlando, and Ocala markets where the bank identified a $169 million exposure. Prior to the storm, we confirmed that all insurance policies were current and active. All clients were immediately contacted after the storm, site visits initiated, and only one multifamily building having a loan exposure of $1.6 million reported damage. Repairs are underway, and the loan is current. As we look at profitability, net income was $6.9 million or $0.35 per diluted share, an increase of $3.1 million or 82% compared to the third quarter of 2023. ROA was 1.11% for the third quarter of 2024 compared to 0.67% for the third quarter of 2023, while ROE was 13.38% for the past quarter, again, as compared to 8.19% for Q3 2023. Also, the company's board of directors declared a cash dividend of five cents per share of the company's Class A common stock on October 28th, 2024. The dividend will be paid on December 5th of this year. The cash dividend program is an important driver to shareholder value, and the Board of Directors is committed to returning capital to our investors while maintaining a strong balance sheet. The following page is self-explanatory, directionally showing nine select circle trends since recapitalization. The disciplined execution of our business plan focused on developing the best people, products, and processes consistently delivered efficient, profitable performance guided by conservative risk management practices. So now let's turn our attention to our specific financial results and key performance indicators, which will be reviewed by our CFO, Rob Anderson.

Thank you, Lou, and good morning, everyone. Q3 was the second quarter in a row where we posted record earnings. As you look at pages five and six, you will see results that reflect crisp execution from a well-oiled USB machine and positive trends that we believe are sustainable as we enter Q4 and into 2025. First, net income was $6.9 million, and fully diluted earnings per share was $0.35 per share. That is up from $0.31 per share last quarter and $0.19 per share last year. As it relates to the balance sheet, loans, deposits, and total assets were all up double digits from the prior year. Tangible book value per share was $10.90, and if you exclude AOCI, tangible book value per share would be $12.84. Profitability metrics exceeded the prior quarters with return on average assets at 1.11% and return on average equity of 13.38%. We also saw improvements in both the net interest margin and the efficiency ratio order. Credit remains clean, and all capital ratios improved. So with that overview, let's discuss specifics starting with deposits on the next page. The deposit book stayed steady throughout the quarter as we used excess liquidity to fund loan volume in the quarter. Probably the most noteworthy item was the Fed's action to cut rates by 50 basis points in September. Accordingly, we were ready for this move, and while the deposit cost was flat quarter to quarter, the September cost of deposit was 2.57%, representing the efforts the team took repricing the money market book. We feel confident that we can reduce our deposit cost with any rate cuts. Some specific actions that we are currently taking include the following: reducing money market rates across the board. We anticipate the deposit beta for this deposit book specifically to be between a 40% and 50% beta. In Q4, we have $147 million in CDs repriced at a weighted average rate of 4.78%. If we went out six months, we would have $213 million in CDs repricing at a weighted average rate of 4.03%. Currently, we are repricing these CDs anywhere between 20 to 100 basis points lower based on the tenor. Furthermore, we are not offering any CDs beyond one year as we are looking to keep liabilities short as the market is anticipating Fed rates to continue. With that, let's discuss our loan book. The loan book continues to grow at double digits whether you look at it from a linked quarter perspective or year over year. Additionally, as we book new loans at yields above the portfolio average, our overall loan portfolio yields continue and will grind higher. As a reminder, we book all loans with floors and prepayment penalties, which should protect us if rates begin to drop. As for guidance, we expect loan growth to continue in the high single to low double digits going forward. Turning to page nine, you can see that for the past five quarters, we have originated $728 million in new loans with a weighted average loan coupon at 7.98%. This past quarter is the first time we have seen loan coupons below 8%, and while the loan coupon ticked down this quarter, which lowers the five-quarter average, we are still originating loans 143 basis points above the portfolio average. This will help ensure our loan portfolio yield continues to grind higher. Also worth noting is that the loan book has transitioned over time and is more diversified. As of quarter-end, non-real estate loans are at 28% of the total loan portfolio. Let's go to the next page and look at the margin. While the margin improved nine basis points in the quarter, the net interest income increased $798,000 or 18.3% annualized compared to the prior quarter. The drivers include a larger balance sheet, higher loan yields, and an improvement in our earning asset mix while holding deposit costs. We believe the NIM can improve from here as September's NIM was 3.09%, buoyed by loan yields that continue to go higher and stabilization in our deposit costs. According to our ALM model, the bank's balance sheet is close to neutral, as we have made changes in the last couple of quarters to prepare for a lower rate environment. Most notably, we have favored money market retention rates over CD rates. This will allow us to reprice liabilities faster going forward. As previously mentioned, we are not booking any CDs beyond one year as we prefer to stay short on the liability side. During the quarter, we unwound $200 million notional pay-fix interest rate swaps. These swaps, while beneficial in a period of rising rates and an inverted yield curve, were at a point where they were not as appealing with the change in Fed policy and the 50 basis points of rate cuts. While these swaps will have a small negative drag in the coming quarters, we have reduced our asset sensitivity with minimal impact on profitability. We expect to receive $13.5 million from the securities portfolio in Q4 at current rates and $49.2 million in 2025. These cash flows will support loan growth or debt repayment. If rates drop 100 basis points, we expect to receive $52.9 million in 2025. These rates attached to these cash flows are between 3.22% to 3.39%, offering us an opportunity to reinvest at much higher rates. As mentioned on earlier calls, we have also pruned the balance sheet from rate-sensitive public funds and single-service product clients. With these changes, we believe our NIM performance will improve from this level, especially if the yield curve steepens. So with that, let me turn it over to Bill to discuss asset quality.

Thank you, Rob. Please turn to page twelve. As you can see from the first graph, the allowance for credit loss has increased $23 million in the third quarter. This was due to an $837,000 provision to the rate, and the ratio remains unchanged and adequate at 1.19%. The provision was driven by the $62 million net quarterly increase in the loan portfolio. Net losses were zero for the quarter. The remaining graphs on page twelve show the nonperforming loans at quarter-end increased $2 million and represent 0.14% of the portfolio. This increase was driven by one consumer loan relationship consisting of two loans which are in the process of collection. No loss is currently expected. Classified loans improved nine basis points from the second quarter to 0.36% of the portfolio as a large substandard commercial real estate loan paid off with no loss to the bank. Classified loans represent less than 3% of capital. The bank continues to have no other real estate. On page thirteen, the first graph shows the loan portfolio mix at September 30th. The portfolio increased $62 million on a net basis in the third quarter to a little more than $1.9 billion. The composition continued to be well diversified. Commercial real estate represents 57% of the portfolio or $1.1 billion segmented between retail, multifamily, owner-occupied, and office properties. The second graph is a breakout of the commercial real estate portfolios for the non-owner occupied and owner-occupied loans, which also demonstrates their diversification. The table to the right of the graph shows the weighted average loan-to-values and of the commercial real estate portfolio at 60% or less, and debt service coverage ratio is adequate for each portfolio segment. The loan portfolio and payment performance are good for all segments, and the past due loan rates remain at less than one-half of one percent and below peer banks. On page fourteen, we discussed the bank office portfolio. Our portfolio at quarter-end consists of 120 loans totaling $182 million with almost all properties being class B and C. The quality of the office portfolio is good with all loans paying as agreed with no classified loans. Ninety-five percent of the properties are in Florida, and over seventy-five percent are in South Florida, with adequate debt service coverage. The average loan amount is $1.5 million with an average loan-to-value of 56% and average debt service coverage at almost two times. The first chart shows the owner-occupied offices making up 36% of that segment with 64% of those loans being occupied by professional and medical businesses. The second chart is the non-owner occupied office loans, comprising 64% of the office portfolio with 85% of those being multi-tenant and medical. We are especially vigilant of the upcoming 2024 and 2025 loan repricing and maturity schedules for all portfolio segments and monitor and model the loan portfolio repayment ability during annual reviews to respond proactively if needed. Overall, the quality and performance of the loan portfolio remain good.

Thank you, Bill. As we look at our fee businesses, the standout this quarter is the team's performance with interest rate swaps. Since Q1 of this year, we have seen an uptick in clients managing their debt obligations with interest rate swaps. We anticipate Q4 will have a similar performance as the pipeline remains strong. With other line items in line or straightforward, let's look at expenses. Our total expense base was $11.5 million and down slightly from the prior quarter. Salaries and benefits decreased $153,000 compared to the prior quarter due to higher incentives paid out in the second quarter of 2024. Also worth noting is that the overall headcount has been stable for some time, allowing us to leverage our fixed cost over a larger earning asset base, and this is evident in the efficiency ratio and noninterest expense to average assets, both of which benchmark well against peers. With other line items straightforward, let's turn to capital. USCB capital levels remain comfortably above well-capitalized guidelines. All ratios improved with strong earnings, and the AOCI improved to negative $38 million. Also worth noting is the company repurchased 10,000 shares of common stock at a weighted average price of $12.03 per share during the quarter. So with that, let me turn it back to Lou for some closing comments.

Thank you, Rob. US Century Bank's performance throughout the year has consistently met or exceeded management's 2024 budget expectations, and the team is keenly focused on delivering the quarter ahead. Without a doubt, the strength of the Florida economy provides the fuel that runs our engine. As the state passed the midyear point with strong job growth, historically low unemployment, and continued strong wealth migration, Florida is creating one in every eleven jobs in the US and adding approximately 750 net new residents daily. The state leads the nation with $36 billion in net income migration, which is greater than the rest of the top ten states combined. Florida's statewide unemployment is 3.3% and has been lower than the national average for 47 consecutive months. The state is also ranked number one this year as the best to start a small business due to a low corporate tax rate of 5.5% and the continued migration of consumers and companies. These factors are among a few that offer Florida continued economic resiliency on which we will continue to grow. The bank's strong profitability metrics, balance sheet growth, and operating efficiency give us confidence in our ability to achieve financial targets in 2024 and beyond. With that said, I would like to open the floor for Q&A.

We will now begin the question and answer session. Please pick up your handset before pressing the keys. If at any time your question has been addressed, at this time, we will pause momentarily to assemble our roster. The first question comes from Woody Lay with KBW. Please go ahead.

Hey. Thanks for taking my question. Wanted to start with the non-interest-bearing deposit growth in the quarter. It was really impressive to see. Does it feel like the increase in that segment is sticky, or were there seasonal aspects that impacted that segment?

Yeah. Maybe I will take a shot at that first, Woody. On average, the DDA was kind of flat in the quarter, but we did see an uptick towards the end of the month, so point-to-point growth was fairly strong. We do see some businesses add some deposits at quarter-end from time to time. But I would tell you, we have a lot of efforts with the sales team focusing on operating accounts and building relationships. So that trend should continue.

Got it. And then, I mean, the overall deposit growth was also really strong. Could you just give some more color on what drove that growth during the quarter, or was it pretty broad-based among the verticals?

Hey, Woody. This is Lou. I would say it is fairly broad-based, but without a doubt, there are three of our deposit aggregating verticals that really have done a great job. Our focus on the Jurisadvantage, which focuses on the attorney client business, has been strong. Our HOA business has also been very strong. And, you know, in general, I think we are going to continue seeing that. And our association banking also has been very, very strong. We have grown really nicely on the HOA side. If we, like I said earlier, 31% of our total deposits have been contributed by those deposit aggregating verticals. Just to put it in perspective, they have grown almost $100 million in the last three quarters. So those are kind of the leaders in the overall, but, like Rob said, the entire team is focused on deposits, deposits, deposits, and they are delivering.

Definitely. And then, I mean, just shifting over to the loan side, you know, you have printed sustainable double-digit levels over the past couple of quarters. How is the pipeline entering the fourth quarter? And do you think that double-digit range is sustainable going forward?

Yes. I attend the pipeline meetings every single week, as does Rob and Bill. We interact with our division head or team leaders. They keep us very much informed of what is happening with the competition. And the Q4 pipeline is right on line with budget. So we feel very comfortable that the same momentum will continue.

Great to hear. Alright. I will hop back in the queue. Thanks for taking my questions.

Thanks, Woody.

The next question comes from Michael Rose. Please go ahead.

Hey. Good morning, everyone. Thanks for taking my questions. Lou, I just wanted to go back to your comment at the beginning of the call that the specialized verticals now are about 31% of deposits. Can you just remind us where that was maybe a year or two ago? And is there any sort of limiter that you would look to maybe put in place to some of those verticals? Because I would expect that there could be some seasonality or lumpiness depending on business trends in some of those verticals. I am just trying to get a better sense of what the growth potential is there and then on the core side, can you just remind us again some of the incentive structures that you have in place to drive more traditional relationship growth? Thanks.

The three main deposit aggregating verticals, if I go back to 2020, totaled $312 million. In 2022, there were $446 million. In the first quarter of this year, there were $554 million. And in the third quarter, we are at $644 million. So you can see the trend is non-seasonal. It is continuous. And, again, we have in each area a product expert. Their job is really over time to work with the business development officers and with the lenders to share the knowledge and then leverage the team. So it is not just one person bringing in these specialized deposits and or loans that go with them. I think they have done a great job on that. And at the same time, we are doing it not by adding additional staff per se, we are very tactical when we do that. As far as incentive programs, we have an incentive program that both rewards for loans and deposits. It is paid semiannually. And it is also very much focused on asset quality. So all three things have to be in play. It is your asset quality, it is your loan growth, it is your deposit growth, and on top of that, it is your portfolio maintenance. So there is a big risk management component to that.

Very helpful. And then, I know you kind of mentioned at the end of the quarter the margin, I think, was around 3.09, and you gave some great statistics around both the loan repricing and the deposit repricing as well. As we think about the next couple of quarters with the rate sensitivity coming down a little bit here, should we expect the margin, off of that 3.09, to kind of grind higher based on the dynamics, or do you think that competition on the loan side ramps up and could offset a portion of that over the next couple of quarters? Thanks.

Yeah. Good question. So a couple of the data points on the deposit side. The end of September's total cost of deposits was 2.57%, and we did not get the full month of the cuts going in. The NIM for the month of September was 3.09%. If you look at the slide on the loan side, we are improving our loan yields about 16 basis points every quarter on the portfolio. So we anticipate the impact of all that to have a positive impact on our margin, and that will continue to grind higher. So that could be, you know, 3.09, 3.10, somewhere around there. I think in the fourth quarter. And if we get cuts, the first place we are going to look to is the billion-dollar money market book that we have. And if we can hold betas between 40% and 50%, we will tell you how we are performing. You will be able to see that in the coming quarters with additional rate cuts. That will be beneficial. So, again, we are still originating loans 143 basis points above the portfolio average. So I anticipate the total loan portfolio to grind higher as well.

Okay. And then you talked about some debt repayment opportunities. Could you just remind us what those are, what the maturities are, and it seems like there would probably be a pretty good likelihood, all else equal, that you would probably look to pay some of that down. Thanks.

Yeah. So, you know, we have only some FHLB borrowings at quarter-end. There are some terms in there. We had some staged out when interest rates were really low. I think we have a couple in 2025. We have some six months. I would have to get the specifics, but we are looking at either loaning it out or keeping small cash balances or paying off the FHLB borrowings when we can. There is not a significant amount there. At quarter-end, I can get you the specifics on the maturity.

Perfect. And if I could just squeeze one last in, you guys, to your point, have been running non-interest expenses to average assets, you know, sub 2% for a while now. Are there any sort of larger expenditures we should think about to kind of keep the balance sheet growth momentum moving forward, or is that kind of a target that we should continue to think about as we move forward kind of in that high 1.80s, low 1.90s range?

I think that will hold as we move forward, Michael. You know, we have not made significant hires over the past year. We typically, I just looked back, added probably the last month or two. We probably hired maybe four to five people a year, and we are able to leverage those individuals that are predominantly on the sales side. We continue to get some new salespeople and performance manage others, but in terms of the efficiency ratio, we are certainly targeting the low fifties and the expense to average assets below two. And I think at the 1.80 to 1.90 is a good modeling range.

Okay. Great. Thanks for taking my questions. I will back.

The next question comes from Feddie Strickland with Hovde Group. Please go ahead.

Hey. Good morning, guys. Just wanted to start on swap fees here. I know you said they likely remain relatively stable at this $1.2 million or so level in the fourth quarter. But, I mean, should we expect that to start to step down a bit in early 2025 as you sort of work through the customer base that is just, I guess, taking on that product?

It could. I mean, right now, the fourth quarter is, I would say, robust, and I would say we should be at that level. I mean, we are closing in on October right now, and just looking at October's numbers, it was very strong. So I feel comfortable about the near term on the swap fees. But certainly, as rates continue to go down, maybe clients, it could moderate a bit, but for the near term, I would say the next six months, I think that level is a good modeling number.

Gotcha. You have the dividend now. You can act on the buyback. With that in mind, can you just talk about priorities in terms of capital deployment? And how you rank different opportunities going forward?

Yeah. First and foremost, I mean, the capital is there to support our growth, but, you know, if we are growing our earnings faster than the assets, then we are going to build capital. And we will probably look at the dividend, and we also have other tools in place such as the buyback. So when the stock is lower, compared to where we feel it should be trading at, certainly, we are going to repurchase. I think we will look at the dividend level as we enter into kind of the fall planning cycle and budgeting and stuff like that for next year in more detail. But those would be the three areas that I would point to for capital. But first and foremost, it is to support our growth.

Gotcha. And just one last one for me. Just generally speaking, I mean, it does not sound like there has really been any kind of slowdown or negative sentiment change among the customer base. Right? I mean, your loan pipeline seems pretty strong, so that would imply to me that things are still proceeding along at a pretty quick pace down there.

I would say it is at a steady pace. There are a lot of deals, Feddie, that we pass on. We are very selective, and asset quality and the overall relationship are how we make our choices. And the fact that we have a pretty diversified suite of products to pick from keeps the business growing very steadily. You know, this bank used to be very concentrated on commercial real estate, and over the years, I think the management team has done a really good job in introducing different business lines that are non-CRE. And they have all contributed over time and are very steady in their delivery. So I foresee our continuity in that low double-digit target.

Great. Thanks for taking the questions, Rob and Lou.

Certainly.

The next question comes from Steven Scouten with Piper Sandler. Please go ahead.

Hey. Good morning, everyone. Thanks for the time. So the loan growth trends obviously look phenomenal in a time when we are not seeing such strength from the industry as a whole and from probably most of the other banks that reported this quarter. How do you think about growth into 2025? I mean, the message we are hearing in general from the industry is, hey, growth has been slower. Think it could pick up after the election or into 2025. You guys are already kind of seeing this low double-digit growth. So could we see an additional uptick, or do you kind of want to manage to that level of the environment? Or just kind of help me think about that if you could.

Well, you know, we are modeling it at that low double-digit. And if we surprise you, we will let you know. Alright? But the Florida market, as I ended my talk here, really is about as strong as it gets, Texas and Florida. And I would say over the last decade, we have seen moments where there may be a dip, but it has been very steady for us. We go back eight or nine years, and we see that it is that year-over-year delivery. And, again, the fact that we have developed all these diversified business lines adds to that growth and that consistency. So into 2025, I would still say that what we are projecting is what we are going to deliver. And it is going to be really based on a strong economy in the state.

Makes sense, Lou. Appreciate that. And along with that, I mean, to drive this pace of growth in the future, do you feel like you have to continue to grow your teams, or do you feel like, you know, the team you have on the field here can continue to grow at this pace for some good period of time?

We are always looking for talent. As a matter of fact, I just interviewed somebody this morning, okay, that we have been talking to for a while. The person is ready to go, and I believe they are going to be joining us shortly. But again, we are being very selective of the individuals. I think Rob made it a point of talking about how we have grown the bank over a billion dollars in assets over the last three years. And we are still under two hundred in our headcount. What we have been very good at doing is upgrading the quality of the production person or the staff person that comes in. And so we have trimmed on the non-performers. And we have been very focused on bringing in talent. And we will continue to do that. So it is not an exponential hiring craze that needs to be done to continue our numbers. It is bringing in the right people and supporting the ones we have.

Fantastic. And then just maybe last thing for me, you guys not only have seemingly bucked industry trends to the positive on loan growth but also on the direction of your NIM since, you know, let's see, second or third quarter 2023. So your screen is asset sensitive, but directionally, you are seeing great improvements. So do I think about that? Is it really just the progress you have made on the deposit side, or is it more that you know, you will be able to see NIM expansion as the Fed is not moving, but maybe we see some volatility as they are actually cutting rates and then, you know, again, we see the same level of stability improvement we have seen the last few quarters once they pause. How can I think about that in kind of reality versus, you know, the modeling and the asset sensitivity?

Yeah. It is a great question, Steven. I talk to my treasurer about this all the time because we do screen probably slightly asset sensitive to neutral, but as you know, those models are loaded with assumptions and they are based on some historical pieces. But what I would say is that we have been able to outperform the model, especially on repricing our money market book. Like, the model could have a 39% deposit beta. Well, if we perform at 40% to 50% on that book, then we are going to outperform that model and we are going to have margin expansion. So that would be one example. We are very focused on the deposit side. I think we have proven over a good period of time that the loan engine is working here, growing at a double-digit pace. So the real challenge for us as we move forward is how do we continue to fund that loan growth at low-cost deposits. So the hires that we have made recently last year and into this year, the one that Lou interviewed this morning, is all around deposit gathering and good solid bankers that have deposit books that can bring over relationships. So we will look to outperform our model, and we anticipate more margin expansion as we go further into 2025.

Perfect. Very helpful, Rob. Congrats on a great quarter, guys, and all the continued progress.

Thanks, Steven.

Thank you, Steven.

This concludes our question and answer session. I would like to turn the conference back over to Luis De La Aguilera for any closing remarks.

Well, thank you, everybody. So on behalf of US Century, the team at US Century Bank, I would like to thank you all for your attendance. And look forward to meeting again in our next earnings call. Have a great day.