FBK - NYSE

Good morning, and welcome to FB Financial Corporation's Fourth Quarter 2023 Earnings Conference Call. Hosting the call today from FB Financial are Chris Holmes, President and Chief Executive Officer; and Michael Mettee, Chief Financial Officer. Also joining the call for the question-and-answer session is Travis Edmondson, Chief Banking Officer. Please note, FB Financials earnings release, supplemental financial information and this morning's presentation are available on the Investor Relations page of the Company's website at www.firstbankonline.com, and on the Securities and Exchange Commission's website at www.sec.gov. Today's call is being recorded and will be available for replay on FB Financials website approximately an hour after the conclusion of the call. 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 presentation, FB Financial may make comments which constitute forward-looking statements under the federal securities laws. Forward-looking statements are based on management's current expectations and assumptions and are subject to risks, uncertainties, and other factors that may cause actual results and performance or achievements of FB Financial to differ materially from any results expressed or implied by such forward-looking statements. Many of such factors are beyond FB Financial's ability to control or predict, and listeners are cautioned not to put undue reliance on such forward-looking statements. A more detailed description of these and other risks that may cause actual results to materially differ from expectations is contained in the FB Financial's periodic and current reports filed with the SEC, including FB Financial's most recent Form 10-K. Except as required by law, FB Financial disclaims any obligation to update or revise any forward-looking statements contained in this presentation whether as a result of new information, future events, or otherwise. In addition, these remarks may include certain non-GAAP financial measures as defined by SEC Regulation G. A presentation of the most directly comparable GAAP financial measures and the reconciliation of the non-GAAP measures to comparable GAAP measures is available in FB Financial's earnings release. Supplemental financial information and this morning's presentation which are available on the Investor Relations page of the Company's website at www.firstbankonline.com and on the SEC website at www.sec.gov. I would now like to turn the presentation over to Chris Holmes, FB Financial's President and CEO. Please go ahead.

Hi, good morning, and thank you, Andrea. Thanks, everybody for joining us this morning. We appreciate your interest in FB Financial. For the quarter, we reported EPS of $0.63 and adjusted EPS of $0.77. We've grown our tangible book value per share excluding the impact of AOCI at a compound annual growth rate of 13.8% since our IPO. We closed out '23 and entered '24 in what we believe is an enviable position due to three factors. One, we have a very strong balance sheet; two, we've redesigned and reinforced our operating foundation; and three, we had some profitability momentum after hitting an inflection point in the second half of 2023, and believe that we should be able to continue that momentum into 2024. So, my first point our strong balance sheet comes from our capital position, our liquidity position, our credit profile, and our granular diversified loan and deposit portfolios. Capital reflects safety and we've got an imperative to maintain sound capital ratios at all times, but it gets extra attention in times of uncertainty and volatility. Our ratio of tangible common equity to tangible assets is among the highest of our peers at 9.7%. We keep no held-to-maturity securities, so 100% of our unrealized loss on our investment portfolio is reflected in that 9.7% TCE to TA ratio. Our regulatory capital ratios are also quite strong. When you adjust unrealized losses as regulatory ratios, we also rank with the top of the class. So those strong capital levels we had a comfortable liquidity profile as our ratio of loans plus security to deposits continues to stay near 100% and 103% currently. And we have access to $7.1 billion in available liquidity sources. On the credit side, we keep a balanced granular diversified loan portfolio with only a handful of blending relationships over $30 million, and none approaching our legal lending limit of over $200 million. For time, following the Franklin Financial acquisition, we had a concentration in construction lending, but currently our ADC to Tier 1 ratio -- I'm sorry, our ADC to Tier 1 plus ACL ratio is 93% and our CRE ratio is 265%. We've averaged less than 5 basis points of annual net charge-offs as becoming a public company seven years ago and we remain exceptionally well reserved as our ACL to loans held for investment is 1.6%. And finally, on the deposit side, we have a granular customer focus funding base. We've had a higher level of public funds and we like since our Franklin acquisition in 2020, but we continue to consciously remix those deposits into customer funds, reducing those public funds by 23% since the fourth quarter of 2022 to around 15% of our deposit base. So a very strong balance sheet. To my second point to understand our redesign and reinforce operating foundation, we have to add some context. In the early months of 2022, we took stock of the economic conditions and forecast of higher interest rates, recession and quantitative tightening. Our view of challenges ahead was reinforced when we heard Jamie Dimon's statement that he was preparing for the worst and forecast that the U.S. was facing an economic hurricane. Even though that economic hurricane never materialized, we made some decisions and we began working on capital, liquidity and loan concentrations to end up with the balance sheet that I just described. Also at that time, we had grown to $12.7 billion in assets from $3.2 billion at the time of our IPO in September 2016, and it grown loans and deposits at organic compound annual growth rates of 15.5% and 16.4%, respectively. Over that period, it had completed four acquisitions over four years that added a total of $5.7 billion in assets. While we have made significant investments along the way, much of our organizational structure and the operating process had been reinforced through the additional headcount, incremental improvements and tackle on additions. Prior to our recent rebuild of that structure, we're beginning to feel like it had been cobbled together reactively and added a necessity, no longer allowed for the proper efficiencies of scale and had led to some expense creep. The risk of a sluggish growth environment in the industry -- that the industry has experienced over the past several quarters was a well time for us and we were able to focus on constructing the organizational structure to enable us to properly scale into the future. The overall talent level and key support functions have increased while the expense base has shrunk. We've improved the accountability and efficiency of interactions between these important functions in our relationship managers. This has enabled us to maintain our local authority community banking model rather than moving to the centralized business line model that most banks say utilize. We view this model as a key differentiator for associate and customer satisfaction, which allows for organic growth, and we also believe that makes us a more attractive merger partner for smaller community banks. And so to my third point, we've be able to continue some of the earnings momentum in the past two quarters. We're excited about the excess capital that can be put to work and proving your turn to profitability. Our priorities for the deployment of that capital are organic growth first, strategic M&A second, and capital and profitability optimization through things like securities trade, share repurchases, and redemptions of capital third. Speaking of organic growth, in the fourth quarter, we saw our loan portfolio grow by $122 million, a 5.2% annualized pace, even as we've reduced our construction exposure by $135 million. 2024, we anticipate mid-single-digit growth as the economy slows, and as we continue to be selective in financing certain asset types that we see as being at higher risk in the short term. 2024's loan growth will be funded by customer deposit growth. We saw deposit cost moderate in the fourth quarter. And while the competitive environment continues to make it difficult to grow deposits, we're encouraged by the deposit pricing trends that we saw in the fourth quarter. We remain active in relationship manager outreach and recruitment, focused primarily in footprint. We are also open to adding strong teams in markets adjacent to our addressing footprint. And as the economic environment continues to improve, we'd expect to return to our 10% to 12% organic growth target rate, given our exceptional markets across Tennessee, Alabama, North Georgia and Southern Kentucky. Based on what we hear from fellow bankers, there should be good opportunities for bank combinations over the next couple of years. Public valuations are moving in the right direction. And whilst credit uncertainty and interest rate marks remain a hurdle for those handful of banks that draw our attention, we know and are comfortable with their credit cultures and credit portfolios. So we don't view that as a significant obstacle. As a reminder, on our financial parameters, we value banks on their work and performance rather than our ability to pay. As we think broadly about the M&A landscape and more specifically about our place in that landscape, we believe that we are due for some consolidation, based on the lack of activity over the past 18 months, as well as how much more burdensome and expensive it's becoming to run a community bank. Between the relative lack of acquirers, compared to our footprint -- compared to what our footprint has had in the past, our operational platform in strong markets, we believe that we have a compelling story for those banks that are interested. Moving to our third priority, Michael and his team continue to evaluate opportunities such as last quarter's securities trade that improved profitability, optimized capital while limiting any book value dilution. So to summarize before I hand the call over to Michael. We spent significant time over the past two quarters laid a solid foundation -- we -- over the -- I'm sorry, over the past two years laid a solid foundation. We've always felt strongly that the value of our local authority community banking model creates value in our footprint. We also feel strongly that we have the process, procedures systems and team in place to scale our model. To that end, we've constructed a balance sheet that should enable us to capitalize on our opportunities. I'm excited to see what our team built on this foundation over the coming years. And at this point, I'm going to let Michael go into a little more detail on our financial results.

Thank you, Chris, and good morning, everyone. This quarter had a number of moving pieces to it so I'll take a minute to walk through our core earnings. We reported a net interest income of $101.1 million. Reported non-interest income was about $15.3 million. Adjusting for a loss of $3 million is the last loan in our commercial loans held for sale bucket left the balance sheet and a net loss of $300,000 between sales of OREO and securities. Core non-interest income was $18.7 million, of which $10.2 million came from banking. We reported non-interest expenses of $80.2 million, adjusting for $4 million of severance, early retirement and branch closure expenses, and $1.8 million of FTSE special assessment from the bank failures earlier this year. Core non-interest expense was $74.4 million. $63.7 million of which came from banking. Altogether, adjusted pre-tax pre-provision earnings were $45.4 million, and banking adjusted pre-tax pre-provision earnings were $47.5 million. Going into more detail on the margin. At 3.46%, our net interest margin held in better than expected as the cost of interest-bearing deposits increased by 7 basis points in the quarter, while contractual yield on loans held for investment increased by 9 basis points. On the whole, yield on earning assets increased by 9 basis points versus the cost of interest-bearing liabilities increasing by 6 basis points. This was the first quarter that the increase in yield on assets has outstripped the increase on cost of liabilities in the first quarter of growth and net interest income since the third quarter of 2022, and we're optimistic about that inflection. Although it's fewer days in the quarter, this will be -- likely be difficult to replicate in the first quarter of '24. For the month of December, our contractual yield on loans held for investment was 6.44%, and yield on new commitments in December were coming in around 8.1%. 49% of our loan portfolio remains floating with $2 billion in those variable-rate loans repricing immediately with moving rates, and $1.85 billion of those loans repricing within 90-days of a change in interest rates. As the $4.5 billion in fixed-rate loans, we have $336 million maturing in the first-half of 2024 with a yield of 6.4%, and $213 million maturing in the second half of '24 with a yield of 6.37%, or a combined $550 million maturing through year-end 2024 with a weighted average yield of 3.39%. For the month of December, cost of interest-bearing deposits was 3.44% versus 3.40% for the quarter. As we focus on exiting some of our more transactional higher-cost public funds in '23, we expect to have less build-in subsequent runoff of public funds than we have in years past. We ended the year with $1.6 billion on balance sheet at year-end, and expect that balances to increase slightly during the first quarter before they begin their seasonal outflow in the second quarter. Another evolution in our deposit base is the amount of index deposits that we currently have, which was not a significant number for us in the past. We now have $2.8 billion in deposit accounts that will reprice immediately with a change in the Fed funds target rate. Looking at CDs, we have $694 million at a weighted average cost of 4% set to reprice in the first half of the year. The current weighted average rack rate on those -- for those deposits would reprice is approximately 30 basis points higher than the maturing deposits. We do expect some slight contraction in the margin and are maintaining our prior guidance for the margin being in the 3.30% to 3.40% range over the next few quarters as public funds build seasonally. Moving to non-interest income. Non-mortgage non-interest income continues to perform at $10 million to $11 million range, and we expect that to remain in that band plus or minus the next few quarters. Our non-interest expenses saw the benefit of the actions we took in the third quarter as adjusted banking segment expenses were $63.7 million. As I discussed previously, we have some expected noise this quarter, and as of now, we are unaware of any one-time charges to expect in 2024. As I mentioned last quarter, our expectation for banking segment expenses for ‘24 would be approximately $255 million to $260 million. We would anticipate mortgage-related expenses of $45 million to $50 million for '24, and all told, we anticipate total non-interest expenses of $305 million to $310 million for '24. The caveat to that expense guidance would be that $255 million to $260 million of banking expenses do not include any significant revenue producer hires and then mortgage could kick higher interest rate like volumes pick up. On the ACL and credit quality, credit remains benign this quarter as we experienced 4 basis points of recoveries, and we experienced net charge-offs of less than 1 basis point for the year. In six of our eight years as a public company, we've had charge-offs of less than 10 basis points, and in four of those years, we've had charge-offs of 2 basis points or less. We had the last of our commercial loans held for sale leave the balance sheet. From close of the Franklin merger to today, we ultimately realized a $7.2 million net gain on that portfolio relative to our initial mark. And as Chris mentioned, we reduced our outstanding construction balances by 16%, or $260 million during the year, and we reduced unfunded commitments for construction loans by 56%, or $913 million as well. Our ratio of construction loans to bank-level Tier 1 capital plus ACL was 93%, which is just outside of our targeted operating range of 85% to 90%. Related to the decline in construction balances this quarter, we did see our multifamily increase as construction projects move to permanent financing. Our ratio of ACL to loans held for investment increased by 3 basis points during the quarter to 1.6%, but our provision expense was only $305,000 as a continued decline in unfunded commitments led to a $2.8 million release in reserves on unfunded commitments. We feel well reserved for the current economic outlook and don't expect material movements in our ratio of ACL to loans absent a material change in the consensus outlook. On capital, we've built significant excess capital and now stand at over 12% common equity Tier 1, and have a 9.7% tangible common equity to tangible assets, which puts us solidly positioned. Well, there is still a broad range of potential economic outcomes for 2024, we feel very comfortable with where we stand should there be any downturn and are increasingly ready to deploy that capital across profitable, strategic and financial opportunities as they arise. I will now turn the call back over to Chris.

All right. Thank you, Michael. And this concludes our prepared remarks. Again, thank you for your interest. And operator, at this point, we'd like to open the line for questions. Michael and myself are here together. Travis Edmondson is on the phone with us, our Chief Banking Officer. He was not able to be here in person, because we're under the same snowstorm that a lot of folks around the country are. And we're snowed in, in downtown Nashville and he is in downtown North, so -- but he is with us on the phone. So, operator, we'll open it up for questions.

We will now begin the question-and-answer session. [Operator Instructions] And our first question will come from Catherine Mealor of KBW. Please go ahead.

Thanks. Good morning.

Good morning, Catherine.

Good morning, Catherine.

I start with the margin, and it was you had some nice kind of positive momentum in the margin this quarter and I can truly appreciate the guidance for the first part of the year, still coming down a little bit in the 3.30% to 3.40% range just given public funds and kind of movement in the funding base. But I'm just kind of curious more broadly, how you're thinking about how your balance sheet will react if -- when we start to get rate cuts? And as at the index deposit information you gave Michael was really interesting that feels like a bigger number than I appreciate it at $2.8 billion. And so, I think if you could just kind of walk us through how you're thinking about how quickly your deposit base could respond when you start to see rate cuts, and then how you think about the kind of -- the balance or the loans side as well, just so we can kind of price in potentially where that margin could go once we start to see Fed cuts? Thanks.

Yes. Perfect, Catherine.

Good morning.

So yes, the $2.8 billion in index deposits is something, as Chris mentioned kind of the balance sheet over the last two years that we've really been cognizant of. In years past, we didn't have that lever and so our deposit cost lagged when rates went down. So that's been something we've really focused on. We are slightly asset-sensitive still so I would expect if there were material rate cuts that you would see some NIM compression, but we feel like we've taken a lot of that staying out if you think back to 2020 when we saw some pretty large NIM compression with the rapid drop in rates. So we are prepared for that but we feel like we're in a much better balance. The deposits reprice effectively, the index loans will reprice as soon as the Fed cuts. A lot of the loan side is either indexed to prime or to some other treasury rates and take sometimes 90 days. So it's a slow -- slower move down on the loan side. And then of course for the non-indexed deposits, we have to be very cognizant of moving those down in line with rates from a management perspective as well.

Hey, Catherine, I would just add one other point. Remember, we were probably faster to rise on deposit costs than some others, especially the bigger national and super-regional banks. And listening to a few of results on Friday from some of those banks, they think their costs are going to continue to rise. So part of our index was a value play for customers, but it's also a play that we thought they were going to rise anyway. And we think that index should allow those to move down a little more -- with a little more speed than maybe some others. So a little faster rise, but we think a little faster drop on the deposit side.

And then in terms of growth, I know Chris you mentioned at some point you think you'll return to that 10%, 12% loan growth rate. Yes, but what's your -- I know it's a crystal ball turning on the timing, but just as you kind of see your pipeline and the outlook near-term, where do you think the growth looks like maybe for the first part of the year, or at least for '24 kind of how you're thinking about the size of the balance sheet?

Yes. So -- and I'll say this before -- I'm joking here Catherine, but no, I did not say 10% to 12% loan growth rate. I said 10% to 12% growth rate, and I'd make that sort of washback, because I specifically took the word loan out of that for our whole team, because that growth rate has to be both loan and deposit growth rate ultimately for us to be successful. And so we're thinking both sides of the balance sheet when we say that 10% to 12%. And we've lagged sometimes on the deposit side, but that's an important -- really important metric for us. But specifically to your question, on the loan side -- or I'm sorry -- in terms of growth in the first-half of the year, how are we going to get be able to slower that -- we're saying mid-single-digits. Frankly, we're not terribly confident one way or another in what growth is going to look like in the first-half of the year, so we're kind of projecting mid-single-digits and we're hopeful that, that'll be the case. We don't think it'll be higher than that in the early part of the year, but we think the later part of the year actually, we could pick up some momentum as where our head is.

[Multiple Speakers]

And part of that -- sure. Part of that is because we're still doing a little bit of really managing our concentrations and have a still -- while we're optimistic and we actually think good things about the economy, both locally and nationally, we think it's still a time to be fairly prudent -- really prudent actually on concentrations over the next couple of quarters as we think they can be gained throughout the year.

Great. I totally appreciate that loan and deposit clarification so really important. So thank you for highlighting that on recording, I think.

Yes. It's supportive for us to reinforce it to our team seems like daily so I want to make sure we reinforce it to everybody. It's an important metric for us.

The next question comes from Brett Rabatin of Hovde Group. Please go ahead.

Hey, good morning, Chris and Michael.

Hey, Brett. Good morning.

Wanted just to start off with the deposit strategy from here. Your cost of funds has leveled out, but you're still having some creep in the various components away from non-interest-bearing DDA. And I know that the public funds have a bit of decision process with what those costs. Can you maybe talk about -- I saw the High Circle Partners announcement this morning. Can you maybe talk about your deposit strategy this year? And as Catherine noted, it's great to see that you've got quite a bit of indexed deposits already repriced lower. But maybe if you're growing loans at a good pace, how do you grow deposits at a similar level?

Yes, Brett, a couple of things. Growing deposits is a longer-term business proposition, and it's just hard work, and so that's what we meant. I wish I could tell you, we had a magic bullet, but we don't. We do – again, it'll be growing customer deposits. We say often our balance sheet is not wholesale. It's customers on both the loan and deposit side. So it's hand-to-hand combat, and that's also why when we were answering Catherine's question that we emphasize it all the time. So no magic bullets. It's just -- we do have -- but some advantages. We do have a retail component as well as a commercial component to that. We are doing some work to really redefine, reinforce our value proposition on that side and just takes focus and execution. And so that's what we anticipate in 2024. You mentioned high circle. We do have banking as a service capability. I don't want that -- I don't want to -- for us, that's perhaps different than some others. We really weighed into that as opposed to dive into that. It's not a strategy that we really even are counting on from a -- let's say from a budget projection standpoint. But we have the capability, and that's a lever. We try to keep levers on the deposit side and the funding side. I mentioned the fact that we focus on the customer balances. Notice, we do -- as you know, we do very little on the wholesale side. That's always a lever to help us sort of even out our loan growth, but it's never a long-term play for us. And so all of those strategies come into play on the deposit side, again, it's not one single thing.

Okay, that’s helpful. And then Michael, you've been helpful with the multifamily market here in Nashville, and I've seen some discounting but -- and some free rent months, but perhaps that's actually healthy, just kind of given the strength of the market. Wanted just to talk a little bit about multifamily and just how you see that space playing out for Middle Tennessee this year.

Yes. And I'll let Travis jump in here because he is the expert. But while we have seen a lot of units absorbed specifically in Nashville in the last 12 months, as you're aware, and pretty much everybody on the call, I'm sure, although you're local, we got about 20,000 units coming online, and so I think it takes a couple of years to probably absorb that. Still seeing the positive end migration. I think the latest count 96 people a day or something that's what I saw in the business journal. So I think that it gets absorbed over time, but there's certainly a lot to absorb and concessions have picked up, I think, for new communities or for communities. So it's just going to take a little bit and hopefully bring down some of these rent prices, I would say, for the people moving in. Travis, is there anything you'd add to that?

No, I think that's pretty spot on, Michael. We are worried about the absorption, but we're not super worried about it. There's a lot of new units coming on, but they seem to be absorbing at a normalized pace. The waiting lists are not as drastic as they used to be so people are having a little bit easier time finding a unit before some people could be on a waiting list for many, many months. So there's still some demand out there, but we're keeping a close eye on it, especially in downtown Nashville. We don't have a whole lot of exposure to downtown Nashville multifamily, where most of those units are coming on. So overall, we think it's still a healthy area. We still think multifamily is a healthy asset class, but we're not jumping in to try to do more construction in that arena, so…

Okay. One last quick one. And I'm finishing up Jim Ayers book, which is really good, and I was curious, just culturally, if there's anything from his presence that you think is a key point for the FBK franchise in terms of what he is instilled in either management or rank and file people.

Yes. Brett, you know, I'd say the list is long, and Jim's presence even today, I mean, he is not here in the office every day, but he is absolutely 100% keyed in, included into what goes on with the company. He still owns 22% of the company, and so you will find a higher, more respected guy in our eyes in terms of his legacy around here. And like I said, it's a legacy, but it continues today. His presence continues today. You know, here's one, but as just an off the cuff response to your question, it's funny, I was thinking of this quote just this morning. One of the things that he and I used to say back and forth to each other all the time was don't get effort confused with results. And that was a line we would use a lot towards each other and towards others in the company. And if you go back to our performance, our financial performance, we usually talk about our financial performance post the IPO, because that's all on the record and documented and it's, you know, when you're a private company, it's less so. But if you look at our performance record for almost a decade before we were a public company, it would have still -- it would have ranked very, very high among a peer group. And so that DNA of performance and winning is the one thing I would say that is Jim Ayers strongest legacy is, you know, at the end of the day, it's all about winning. That's weaved into the company's DNA and that comes directly from Jim Ayers.

Okay, great. Appreciate all the color.

Sure.

Thanks, Brett.

The next question comes from Thomas Wendler of Stephens. Please go ahead.

Hey, good morning, everyone.

Hey, Tom.

Good morning, Thomas.

Last quarter we saw C&D balances contract in line with your guidance down to the 93% capital you highlighted earlier. Can you give us any more color on your expectations for C&D moving forward into 2024, and maybe any of the other concentrations you're managing?

Yes. Travis, I'm going to let you come in. I'm going to make just a couple of comments. We've got, oh, man, I don't know, dozens of concentration management metrics beneath the headline metrics that become public and the one -- the couple I'll comment on C&D. Michael actually made some reference to, we'd like to manage that down closer to, say, the 85%, where maybe up to 90%. It's at 93%. So we view that as just for our sort of risk tolerance and risk appetite that we’d manage it down just a little bit from where it is. But it's in a very manageable range right now. Same way on overall CRE. We're at [2.65] (ph) again, we would manage that down just a little bit from where we are, we'd be down [2.50] (ph) or less or so. Just -- again just very manageable from where we are, but we'd like to manage each of those down just a little bit. And then we manage a couple of the ones that just come to mind -- all of the major asset classes, but even within those, I think about managing hospitality within CRE, which we don't want to get too high right now. We've talked about multifamily. We're watching that concentration fairly closely. And then I think it goes all the way down to concentration in things like rent to own and things like that, where we have some specific concentration limits. And so Michael or Travis, either one of you have any other comment on that?

The only other comment I would have is that we do watch multiple concentrations internally. Obviously, the ones that we're getting a lot of the headlines right now, which is office and multifamily, which we just talked about, those are higher on our list. We're within our tolerances internally on those and so we don't have a hard stop, but we're being very mindful of any time we get a request in those categories. And then Chris alluded to ADC, and did a really good job explaining that. So we still have a ways to go in reducing our exposure to ADC. We're probably in that 75% to 85% range is where we want to be over the next few quarters, and quite frankly, we would want to stay there. So not significant growth in that category over the coming quarters.

Yes. Tom, I'd say on the other side of the balance sheet and gets less focused externally. We have deposit concentrations that we're constantly monitoring as well around municipal deposits, public funds, CDs type stuff like that. So a lot of focus internally on that granular deposit base that Chris talked about and relationships. And so it goes for both sides of the balance sheet when you're managing concentration.

That was a lot of great color. I really appreciate that.

Sure. The other thing I would say is just a point of commentary is we consider that a really strong risk management on the liquidity side, because where you know, 2023 was -- and we talk about -- I think I used the word granular maybe three times in my prepared comments but -- and really, we're thinking loans and deposits there, but we view that as a really strong risk mitigate is the granularity of both those loan and deposit portfolios. And so we actually manage that quite closely because we think, again, that's a really strong risk mitigate and it's a really big liquidity advantage for us if things -- if we experience things like we did in March of '23, again, and with the way that money moves today, again, we like our position, so…

Thank you for that. And then just one more for me moving over to mortgage. I appreciate the mortgage visibility is usually pretty poor, but can you give us an idea of how you're thinking about mortgage in 2024?

Yes, Tom. Obviously, mortgage had a tough fourth quarter, specifically in the year kind of fell off volume-wise off the cliff the last couple of weeks of the year, even though the rates were a bit lower. We've seen mortgage kind of come back to life here in the first couple of weeks of January. We don't expect mortgage to be a huge contributor in 2024. We also don't expect mortgage to lose money. And there are some benefits to the held-for-sale pipeline spits off interest income. So there is some other benefits, but it's a core piece of the company. Chris talked about retail earlier. We think mortgage is a very important piece of the retail story and something that is a critical product. And I think brighter days are ahead for the mortgage industry, but the whole industry is not out of the woods yet, and we'll see how things develop with rates but also affordability within the industry, which is a challenge in most of our markets.

All right. Thank you for that.

Hey, Tom, could I just -- I want to add this one thing on thing on mortgage. Two things -- two or three things. One, we had a good quarter. We felt like a pretty solid foundational quarter in spite of mortgage. Mortgage did not have a good quarter. And so when we look at it, there are no sacred cows in any part of our business, including mortgage. So it stays under constant analysis again, just like all the other parts of our business. One of the things that we recognize that we don't talk a lot about is we don't give any net interest income credit. We don't give any credit for that part of our business on what happens to net interest income, which that -- that distorts the profitability picture just a little bit. It's a business that doesn't take a lot of capital outside of the mortgage servicing rights. The other part, the origination part of the business doesn't take much capital, and it has a significant upside. And as Michael said, from a retail standpoint, we think it's a key customer acquisition part of our go-forward retail strategy. And so as we look into next year, we think that we don't have a lot -- matter of fact, we really don't have much at all in our projections for next year, and -- but we will also -- we will make sure we ensure against any downside. And so that's how we're viewing it as we're stepping forward here.

All right. Those were my questions. Thank you, guys, and a good quarter.

Thank you.

Thanks, Tom.

The next question comes from Alex Lau of J.P. Morgan. Please go ahead.

Hi, good morning.

Good morning, Alex.

Good morning, Alex.

Following up on the question -- comment around reduction of construction concentration and looking at the impact of your provision forecast, do you expect this to be front-loaded in the year or more gradual throughout the year?

Yes. It's a good question. It'll be perhaps slightly front-loaded, but I'd say just slightly front-loaded because like I said where we are, we are at 93%. We don't want to go up from here and so you could see a little more front loading and we'll gradually work it down from here as well. So you could see a little more front loading, but again, once we get down in the 85% range, you'll see it begin to be much more gradual.

Yes. And Alex, you have two kind of phenomenon there, right? You have the -- as they go from unfunded, as those balances are reduced, that creates a release from the unfunded bucket. And then you have migration on the ACL side. So as you go from a construction reserve of 2.53%, to call it a multifamily or a CRE bucket. While those balances go up, you stay in that kind of weighted 1.60 range, but it creates a little bit less impact. So to Chris's point, it'll be gradual, but that's where you see some of that release coming from.

Thank you. And then my follow-up question. Can you give some color on the C&I loans that moved into non-accrual this quarter? Are these idiosyncratic? Or is there any trend that you'd highlight there?

Yes. Travis, do you want to take that and I'll add some color?

Sure. Good morning, Alex. The C&I loans have moved this quarter were just kind of one-offs. There was no pattern or anything we've seen. And we still can see just normal course loans moving in and out of the classified assets, moving into special mention, moving out, upgrades, downgrades. So it's still pretty normal out there in what we're seeing in credit quality. In fact, the one credit we talked about last quarter that's got a lot of positive momentum. And so that one is trending where it probably won't be an issue in the coming months if everything -- we're cautiously optimistic if everything keeps going the way it is. So no systemic issues that we're seeing right now. It's just continual portfolio management, and you always have one or two that you're worried about.

Thank you. And one follow-up question on NIM and NII. You mentioned moving back to that 3.30%, 3.40% range and also some optimism in an inflection point in NII, maybe in the second quarter. What are you assuming for the rate curve scenario?

Yes. You know, Alex, we're probably a little bit of an outlier in the way we think about rates because we don't see a whole lot of impetus to lower. And you know, I was watching CNBC this morning, and they were talking about the forward rate curve. A CEO of a slightly larger financial institution was talking about it at Davos, and they had four priced in and four in '25. So we kind of think about it basically status quo in our kind of budgeted numbers, and would just expect to see, as Chris mentioned, needing -- when you need deposit growth, you have deposit growth. We've got to grow core relationships, but we also believe in a fair customer proposition -- value proposition, and so we think that that includes paying interest on deposits. So that's where that lower net interest margin comes from and just composition. But the forward curve has been wrong for the last two years and so we've been -- we're slightly less conservative there.

Yes. We could have a bump or two down in the second half. Again, just our view, and it's worth less than, as Michael said, the view that you could have gotten on CNBC this morning from a much larger bank CEI. But we -- again, we don't see the moves down that are being forecasted and we could get a couple in the second half of the year is more our view as we think about moving forward.

Great. Thanks for answering my questions.

Thanks, Alex.

Thanks, Alex.

The next question comes from Stephen Scouten of Piper Sandler. Please go ahead.

Hey, good morning, everyone.

Hi, Stephen.

So what's worse, even less than your view on rates would be my view on rates, but I'm with you. I don't really see what the forward curve is telling us today. That said, if we did see more cuts in '24 and '25, can you help frame up the potential for what the mortgage business could return from a profitability standpoint today in an upside scenario because obviously, it's a very different business than it was in '21 when we last had probably a pretty robust market there so just trying to think about how to frame that up?

Yes. Stephen, I think there's pin-up demand out there specifically for first-time home buyers. People -- 6% mortgage rate is a lot different than the 8%, and so you could see some refinance activity. There's very likely, if you kind of read all the publications, that there's people that have been waiting to move because they don't want to get out of a 3% or 4% mortgage. So I think there's upside. As you mentioned, I don't think you have a $25 million, $30 million mortgage contribution year because we -- as Chris said, taken a lot of the downside off the table has been a process, and so with that, you take some of the upside off. But I think you could certainly see margin return to a respectable level and have a high-single-digit -- low double-digit kind of mortgage contribution if rates move down far enough because there's still a lot of people that want to be in our markets, and they're moving here and looking to buy houses. So we're a purchase-oriented retail origination shop. About 85% of our loans are purchased, which does create refinance opportunities down the road with those customers. But our focus is on building business that way in the purchase market.

Thanks. Great.

Yes, Stephen. I think also a couple of things. The business has thinned out and will thin out even further from both independent mortgage companies, but also some of your largest banks that have exited. And so I think it actually creates a pretty nice spot for, I'll call it, the larger regionals and the smaller regionals both and so I think that's a reason. We analyze, as I said earlier, hey, why aren't we in the business and do we need to be in the business? And the answer is yes. We do think there is an upside. So if you think also about there's some pin-up purchase demand so as rates stabilize and maybe even move down just a little bit, that probably kicks up the purchase demand, which improves the outlook. And then if you get six or eight rate bumps down, when that does eventually happen, even if it's two years from now, that's a catalyst for the refinance market, which will probably kick in in a significant way once you get to that level of rate decreases. And so that's -- that again, when you add to it our retail side, which we think it's important too and you add to it the fact that it's a contributor to our net interest income, we like all those pieces of it.

Yes, that sounds good. Okay. Curious, you know, you noted your kind of second priority from a capital strategy standpoint is kind of M&A if you stack rank those, but you also noted the local decision-making process versus a centralized approach being a great benefit to you, which I would agree. Is there a point where you think, hey, we do a couple more deals, we get to a certain size where you're no longer able to have that structure? Or is that kind of integral to how you guys think about running the bank irrespective of size moving forward?

Yes. Again, insightful question, Stephen. And we're pretty emphatic on the answer. It's integral to how we run the bank. And so when we talk about spending two years to take a step back and really kind of evaluate our structure, evaluate our efficiency, evaluate our scalability, we think that's the right way to run the bank. And so we thought about and we're thinking about every day because we're not finished scalability, and we think about risk also. There is not only credit risk, which perhaps the most traditional risk type of risk that you think about, but we think about compliance risk, we think about reputational risk, all of those things with that model, and so we've been very thoughtful in how we continue to design it for the long-term. And so we do think, look, if we do an acquisition that adds, I don't know, $2 billion or $3 billion in assets to the company, or, and then another one that adds another two and three and then another one that adds five, we think the model is still going to be the model, and we think that's important. And we think it's a very significant competitive advantage for the types of institutions that we'd like to partner with and we think would like to partner with us because they typically going to have some retail density to them, a big deposit side. Again, deposits are just really key to us, and we think that's important and so we've designed it to continue that model. A good question, one that we ask ourselves all the time and one that just reinforces our commitment to the model. Awesome.

That's great. Helpful. And then maybe just lastly, for me, and this is kind of super high level, and you may not have an answer for this. But the market seems to have gotten the Banking segment wrong throughout a lot of the last half of '23, right? It was what was me, what was me, and then all of a sudden, we got this huge run since November. I'm just kind of wondering at a high -- from a high-level business perspective, has there been anything that surprised you to the upside, whether it's continued credit performance, customers' acceptance of higher loan rates? As you look at your markets in the business, anything that's kind of been a surprise, either to the positive or the negative?

Yes. I'll give maybe a thing or two and Michael and Travis, you guys chime in if there's something. One thing is, as we went through the challenges of 2023, where the two biggest -- in my mind, the two biggest ones were the failures in March or the failures in the early half of the year of Silicon Valley signature first republic. The fact matter is our customers didn't -- never wavered in terms of confidence in our institution. And so we prepared like crazy with messages and with materials to show our safety and soundness. But our customers, it was almost like, wait, I know you're safe. I know I'm in a good spot. And so that was a big positive surprise, I would say and the same with I'd say what's been a positive surprise is as rates have gone up and if treasuries have really the interest rates -- interest that you can earn on a treasury versus maybe a deposit account, again, the willingness of customers to have a conversation about that instead of you just find out enough the money has gone. And we -- going back to I think it was Catherine's question and some others about how we really think about that fairness of value as a part of our value proposition and customers understand that, and that's been a positive for us.

Yes. I mean, not a surprise to us, Stephen, but I think maybe a surprise to the industry, and the downfall of the community banking system, which was all over the news headlines in March-April. We -- actually, as Chris mentioned, we're steadfast in the other corner, and I think that that's been proven out. In fact, we hear from customers all the time that they still believe in. And really, back to your other question, the model, the local decision making, the serving of the customers. So not a surprise to us, but maybe a surprise to the aforementioned CNBC crowd a little bit, but.

Yes.

Yes. Great guys. So that's super helpful. I appreciate all the commentary as well.

Hey, Stephen, I got one more.

Yes. Surprise.

That deposit insurance remains and it's -- maybe it's not a surprise, but this is a plea, deposit insurance remains antiquated. It would be a surprise that -- it's not a surprise because we have trouble getting anything out of Washington. But the deposit insurance system needs to be reformed, and there needs to be some thoughtful folks that change how deposits get insured. And at the end of the day, that side of the FDIC -- the insurance side of the FDIC is a big mutual insurance company with the banks that are the customers and therefore the owners and the funders of that. And we -- regulatory from a by law and regulation, we're kind of barred from doing much with it, but it's a surprise that we just can't get any momentum to modernize it, so.

Yes, yes. I second that flee. I agree with you. Thanks, Chris.

All right. Very good. Thanks, man.

The next question comes from Feddie Strickland of Janney Montgomery Scott. Please go ahead.

Hey, good morning, gentlemen.

Good morning, Feddie.

Good morning.

Just wanted to ask a clarifying point to kick off on the public funds flows. So it sounds like that was deliberate that they were a little lower than what we would normally see this quarter. Will we see still some flow in the first quarter? And then it sounds like going forward, the impacts from public funds should be a little lower, just as you said, you're prioritizing some more of the relationship public funds. Is that right?

Yes. Feddie, good morning. It's Michael. Definitely deliberate in the fourth quarter and really going forward, I kind of put in a plug for deposit concentration deposit management. We have a lot of really solid relationships on the public fund side so I don't want that to get lost, and we have actual core deposit relationships where these are our strong customers. Where we really focused in on is some of the more transactional, higher interest, kind of excess funds. There is a couple of things going on there. Some other financial institutions were still paying fed funds plus on some of those deposits, which we just were not willing to do on excess interest, and then there's some state-funded insurance deposit rates that are actually pretty high right now. And so some of those, it's just better for those municipalities, yes, they're doing what's best for their taxpayers, and so they move some funding over there. I would expect first quarter, right, you got taxes coming in, you still see some of that flow higher in the first quarter. So you'll still see it, but we are managing it just like we manage all of our other relationships and trying to be fair to everyone, shareholders and institutions and our customers. So expected to flow up. We're really working on that being a much smaller impact to the overall deposit base.

Understood. That's helpful. And kind of along the same line of questioning, I think, Chris, you may have briefly mentioned this earlier, but can you talk about how you view broker deposits as part of your funding base going forward? I mean, do we see those decline all the way to zero? Or is there some small degree that maybe stays on the balance sheet as a sort of asset liability management tool?

Yes. So the way that we use broker deposits if you notice, they went down this quarter, and we use -- we do not use broker deposits as -- to fund our loan growth, okay. For us, it's a vehicle that we will use to maybe lower our cost -- our overall cost of funding at different points when we see some value in that particular funding channel. But that's why you will see it go to zero from time-to-time, and you -- and matter of fact, if you went over the last five years -- if you went pre-Franklin transaction, you would have seen it sit at zero for long periods of it. And so we don't use it -- we view it as -- we don't use it to fund growth. We use it as one more funding source to basically lower our cost of overall funding, and that's why we're in and out of it from time-to-time.

Got it. That makes sense. And one last quick one for me just -- I think I pegged a 57% core bank or bank efficiency ex mortgage this quarter. I think last quarter we were talking about potentially getting down in the mid-50s on the core bank on efficiency. Do you still think that's potentially achievable in 2024, even with all these moving parts?

Yes, we do. Actually, I think it's potentially achievable. The key is what happens on the revenue side. We're going to continue to manage the expense very closely and tightly throughout 2024. And frankly, every day, always, we want to make sure that we're doing that. And so it's a little bit dependent on the revenue side, what happens with the margin, what happens with some of our other income source -- other revenue source of that mortgage growth.

Got it. Thanks for taking my question.

Appreciate it, Feddie.

The next question comes from Steve Moss of Raymond James. Please go ahead.

Good morning, guys.

Hi, Steve.

Good morning.

So just following up here on a couple of things. Maybe just where -- on loan pricing, just curious what you guys are seeing for new and renewals with regard to C&I and CRE loans these days.

Yes. Steve, it's Michael, and Travis you jump in here whenever. But new loans commitments coming in about over 8% still. I think we're about 8%, 10% in December. So, you know, when Scout was asking earlier about surprises for the year. I mean, we did -- we have seen our customers adjust up to, you know, the new normal, which is 8% plus on loans and commitments. And so that has been a positive, been that way for the better part of the back half of the year for sure. And we continue to see that. Even though kind of longer term treasuries have come down, it hasn't adjusted kind of loan pricing the way we see it, which is typically more towards the short end of the curve. So Travis, anything you'd add to that?

No, I think that's spot on.

Okay, that's helpful. And then just curious, Chris, you spoke earlier in the call about M&A and your expectations for transactions to increase your next 12 to 18 months. Just curious, has the pace of discussions, you know, picked up here since October, November?

No, it has not. As a matter of fact, probably the last discussion, I'd say over the -- you get in the holidays and not a lot of discussion. So for us anyway, keep in mind this is research of one here. You'll hear from others as we go throughout earnings season, but we haven't seen a pickup really, to be just, I mean, that's all I'd like to see if we haven't seen the pickup in conversation.

Okay, great. Well, most of my questions and asked and answered, so really appreciate all the color here.

All right, Steve.

Thanks, Steve. Thank you.

This concludes our question-and-answer session. I would like to turn the conference back over to Chris Holmes for any closing remarks.

All right. Thank you all very much for joining us. Again, we always appreciate your interest and support, and we will look forward to a great 2024. Thanks, everybody.