Colony Bankcorp, Inc. (CBAN) Earnings Call Transcript & Summary

Hello, and a warm welcome to Colony Bank First Quarter 2023 Conference Call. My name is Candice, and I'll be your coordinator for today's call. [Operator Instructions] I would now like to hand the conference over to Derek Shelnutt to begin. Derek, please go ahead.

Thanks, Candice. Before we get started, I would like to go through our standard disclosures. Certain statements we make on this call could be constituted as forward-looking statements within the meanings of the Securities Act of 1933 and the Securities Exchange Act of 1934. Current and prospective investors are cautioned that any such forward-looking statements are not guarantees of future performance but involve known and unknown risks and uncertainties. Factors that could cause these differences include, but are not limited to, pandemics, variations of the company's assets, businesses, cash flows, financial condition, prospects and other results of operations. I would also like to add that during our call today, we will reference both our earnings release and our quarterly investor presentation, both of which were filed yesterday, so please have those available for reference. And with that, I will turn the call over to our Chief Executive Officer, T. Fountain.

Thanks, Derek, and thanks, everyone for being on the call today. We're pleased to report solid results and what's turned out to be a very unusual environment this quarter following the failures of Silicon Valley and Signature Bank, our industry received a real test of liquidity and really a test of financial strength and confidence in the banking industry as a whole, and we passed that test, and I think the vast majority of the banking industry did. I do want to thank our team for all their hard work and extra effort in communicating and working with our customers during this uncertain time. I think that the disruption that we had during the quarter really highlighted the value in core deposit franchises like ours. We have not had to borrow from the Fed's bank term funding program, and we have no overnight borrowings outstanding at the end of the quarter. During the call, we're going to -- and in our investor presentation, we'll highlight the strength of our deposit base and our liquidity and share some new information with you on that. I'm going to run through a quick overview today in the quarter, and then Derek's going to highlight our earnings and liquidity and then D Copeland will give an update on our operating businesses. We did see very good stability in our deposits this quarter despite the uncertainty in the marketplace, and we were pleased to see that. From an earnings perspective, earnings were down quarter-over-quarter, but excluding onetime items, our operating earnings were level with last quarter. Of course, Q1 is the shortest quarter of the year with less days to earn interest and fees, and it's a seasonally weak period for mortgage originations. So we're pleased to report operating earnings in line with last quarter. Again, this quarter was in the last couple of quarters, all of our earnings came from our banking division, which highlights the strength of our core banking business. We're focused on improving the profitability of our mortgage and other operating businesses and D will give you an update on the significant process we're making there. Loans this quarter grew at about a 14% annualized rate. But given the current economic outlook and decreased customer demand, we would expect loan growth to be flat or slightly up for the remainder of the year. Our margin did decline quarter-over-quarter as expected due to the continued increase in deposit rates, which outpaced the growth in our earning asset yields. We expect that pressure to continue and expect margin to be in the low 3s or high 2s for the remainder of 2023, given current interest rate forecast. Noninterest income remained fairly level this quarter. Again, this is a seasonally light quarter for us in noninterest income due to the last days and the seasonality of mortgage. Mortgage revenue was flat compared to last quarter and insurance and other noninterest income held offset the decreases that we also saw in our government guaranteed lending this quarter. We have a lot of opportunities to see noninterest income growth throughout the year. So we're very excited about that. One of the areas we saw significant improvement this quarter was in operating expenses, which were down $662,000 from last quarter and down about $1.3 million when you exclude onetime severance costs and contract termination costs related to the South Crest acquisition. So we were glad to see that. Asset quality remained strong. Levels of criticized and classified assets remained steady as the net charge-offs. And then just in terms of capital management, we did not buy any shares back this quarter. We certainly think this is a very attractive level to be buying our shares, but given the uncertainty in the economy, the uncertainty in the regulatory environment following the recent bank failures, we just think it's a better time to be building capital right now. So all in all, a good first quarter. It sets us up well to achieve our goals this year, which includes a focus to get to a 1% ROA run rate by the end of the year. So now I'm going to turn it over to Derek Shelnutt, our Chief Accounting Officer, to go over the financials in more detail.

Thanks, T. First, I'd like to cover some information about our liquidity and deposits. We've added a number of slides in our investor presentation to provide you with more information on our liquidity and our deposit base. Starting on Slide 18, we lay out some additional information on our deposit accounts. We're growing our customer base in terms of total accounts, but we are seeing our customers shift their balances, as you might expect in a higher interest rate environment from DDA accounts to interest-bearing accounts. On Slide 19, you can see that our deposits are spread throughout our footprint with the strongest deposit base being in our legacy South Georgia footprint. On Slide 20, we've provided you the breakdown of our business deposit customers by industry type. Given the concentrated nature of the deposits with some of the banks that have struggled with liquidity challenges recently, we thought it was important to highlight just how diversified our business customers are. On Slide 21, we show you the trends in our uninsured deposits. And as you can see, we did see a decrease in uninsured deposits this quarter. And we saw inflows to our ICS products and also just some general restructuring of some accounts and some of our customers to maximize their coverage of FDIC insurance. Overall, we have a really low level of adjusted uninsured deposits, which would exclude our municipalities to have their deposits collateralized. We have sufficient off-balance sheet liquidity, as highlighted on Slide 15 to cover all of our adjusted uninsured deposits and the stress liquidity situation. I'd also like to address our AACI, which is driven by unrealized losses in our securities portfolio. Our AOCI went from about $66 million last quarter to $60 million this quarter. Slides 25 through 27 gives you a breakdown of our investment portfolio. And we don't have a lot of the credit exposure in our portfolio as the interest rate changes that are driving those losses. We continue to see the yields creeping up, and we also see our average list and durations decreasing from their peaks back in the second and third quarter of last year. There's significant opportunity to recover tangible book value as we see rates stabilize and it will come down from here. And from an earnings perspective, as Heath mentioned earlier, EPS was down to $0.29 this quarter compared to $0.31 last quarter. On an operating basis, earnings per share was flat at $0.31 this quarter and last quarter. Our net interest income was down about $800,000 from last quarter with a little over half of that being due to the shorter quarter. Our earning asset yield increased 25 basis points from last quarter to 4.23%. This was exceeded by a 51-basis point increases in our interest-bearing liabilities. And to give you an idea of what that looks like going forward, our cost of interest-bearing funds was around 1.68% at the end of the quarter compared to 1.47% for the whole quarter. And our cost of interest-bearing deposits was around 1.24% at the end of the quarter compared to 1.06% for the whole quarter. Our provision for loan losses for the quarter was $900,000, which is in line with last quarter and being driven primarily by our loan growth. We did adopt CECL during the first quarter, and that resulted in a $1.2 million onetime charge to capital related primarily to the requirement in CECL to reserve for unsubtle commitments. As T mentioned, our noninterest income was flat compared to last quarter. Mortgage income was stable compared to last quarter. And as we will discuss in more detail later, we saw significant increases in our pipelines towards the end of the quarter as rates decrease and as we enter the traditionally strong spring home buying business. We're focused on driving down operating expenses, and we want to drive our quarterly run rate of operating expenses down to $20 million per quarter by the end of the year. This quarter, excluding onetime charges, we were around $20.5 million. We shifted our team's focus internally, given our outlook for lower growth, and we are making adjustments to leverage technology and ensure that our staffing levels remain appropriate for our current outlook. From a staffing perspective, we're down significantly in FTE this quarter, both in the Banking division and in mortgage, and we'll continue to see those numbers come down, both for attrition and through reduction in force. We've already implemented some of those reductions in the second quarter, particularly in our mortgage back office. Our compensation expense quarter-over-quarter was flat when we exclude severance expenses. Of course, in the first quarter, some of those decreases in staffing were offset by our annual compensation increases that occurred in the first quarter. And we should see on a go-forward basis, we should see that number come down as these reductions take hold. Leveraging technology has always been a part of our path to profitability. However, we thought we would grow into some of this by adding capacity. But given our current outlook for lower growth, we'll continue to make adjustments to our expense base, and we believe we see the opportunity for other expenses to continue to come down. Also, during the quarter, we renewed our core contract, of course, system contract, and that resulted in about a $1 million annual savings, and we realized a portion of that in the first quarter. Now I'd like to hand it over to D to discuss our [indiscernible].

Thanks, Derek. First, let me touch on loans. I'd like to talk a little bit about the loan growth on the commercial side of the bank. We had another great quarter of loan growth. As Heath mentioned, we grew about 14% on an annualized rate for the quarter. That's significantly lower than it was last year. We expect to continue to slow down this year. And we likely will see loans stay flat to slightly up for the remainder of the year. On Page 12, you'll see a breakdown of the different loan growth by different markets. And you'll see that we had strong loan growth in both the Alabama and the Atlanta markets. On Slide 22, we have an additional breakdown of the overall loan portfolio. One area that has gotten a lot of attention this quarter from a lot of the other financial institutions and investors that are out there. We break down further on Slide 22, which is our office sector. I thought I'd give you a little bit of information on what our office portfolio looks like. Roughly 10% of our total loan portfolio is in the office sector. In doing that, if you look at ours, we do not really play, we don't have any of the high-rise offices that a lot of the other institutions do. Over half of our portfolio are single-story office buildings, and we really have no offices over 3 stories. As you can see in the information provided we have strong loan to values in the sector and only 9% of our portfolio is none recourse. But as you can see in both of those, they are very low loan to value. We feel good about this portion of our book. And probably one of the most telling stats is at the end of the quarter, we had 0 past dues in the office sector. I'll switch now to deposits. Deposits did grow slightly 1% quarter-over-quarter. If you exclude broker deposits, we were virtually flat for the quarter as well. If you look at Slide 19, we'll give you a breakdown of the deposits by market. And I think that's a very telling story for us is the majority of our markets are in the historic rural South Georgia portfolio, which is very much a very, very stable deposit base. We have a tremendous opportunity for deposit growth in the long term in our higher growth markets, and we look forward to that opportunity. On the commercial side, our banker incentives have been moved this year, really at the beginning of the year, [indiscernible] of the events that took place and are heavily focused on the deposits for 2023. We have implemented and rolled out retail incentive plans that are also focused on deposits as well. And these incentive plans have been in place since the beginning of the year. Now in Treasury, we have added talent on the sales side, very recently. And we hope that this pickup can help us on the acquisition of deposits in the markets, and we feel we can be very competitive there. I'll switch now to a couple of our lines of business. First, I'll talk about the small business specialty lending. We had a good quarter there. Just those are variable rates, and they are in general and your prime plus 2 type of loans. So in today's rate environment, they are good loans for us to be making as they will move as rates be. You can imagine, though, with those rates, there has been pressure on that business. But at the same time, we had good production. And you can see that on Slide 8. This group has been consistently profitable. In addition to that, we are exploring other opportunities by adding small dollar lending and other specialty groups within the SPS portfolio. And those ones, we have yields in excess of what I just mentioned previously. On the mortgage side, we had a significant shift during the first quarter. I just wanted to -- we have moved more suddenly back to the secondary market loans. That was most apparent in March. We did have some things in January and February that we closed out from year end. And as you look at it, we move to profitability in March. And so for the month of March that we were there. Slide 9 shows the mortgage production that we have. But in addition to leaving the profitability in March, we also take actions needed to be done. We reduced back-office expenses in the first quarter and have already reduced additional expenses in April that will show up in the second quarter as well. We are seeing good locks and good production for April now in excess of where we were in March, which is very much a positive. We turned to profitability. We expect this to be mortgage to be profitable for the remainder of the year, assuming we stay in the rate environment that we are today. Let me touch on a couple of the other new markets and startup businesses. If you look on Slide 7, there's a lot of different information that is there. I think one thing that is key to note is that the losses in those businesses peaked in the fourth quarter, and they should continue to come down and turn to profitability over the remainder of this year in each and every one of those businesses. I'll touch first on Alabama. We're making good progress with the team in Alabama. Our loans closed at about $41 million in Alabama, which is almost double where we were at the beginning of the first quarter. We still have a good pipeline and we have done this with our team shifting over from CRE to more C&I-focused lending and, of course, deposit generation as well. The marine RV this is really the first quarter that we have had this group in full operation. We closed the quarter with about $2 million in outstandings. We continue to see a ramp up there, which is positive. Today -- through today, we are roughly $5 million. So we've had another $3 million in production at the beginning of April. The one thing that is great about this is we have strong credit scores and really strong returns on this business. Expenses in this business should not go up significantly with the adding of this portfolio. And so it should just be as we add assets, we'll get more and more profitability. In addition, another positive of this is it is a great asset and generation for us and a great class, but it also gives us the opportunity to sell portfolios in the future over the long term if we want to originate fees. And then lastly, I want to touch on merchant services. The merchant team is having good success. As our bankers have found out, this is a great leading product for calling on business customers for deposits and our referrals continue to grow every month. And our volumes are consistently increasing, which is really the main factor in growing the profitability. We continue to see a very good trajectory for this and expect to be the profitability during 2023 as well. With that, I'll turn it back over to you, Heath.

Thanks, D. That wraps up our prepared comments for today. And so with that, I'll call on Candice to open up the line for any questions we might have.

[Operator Instructions] So our first question comes from the line of David Bishop of Hovde Group.

Yes. I'm curious Heath of the return, I appreciate the disclosure on the startups. As you noted, it looks like the expense drag may have peaked. Do you see those potentially breaking even by the end of this year? Maybe just where you see the overall sort of profitability or pretax profitability you provide trending throughout the year? And can that turn profit?

Yes. We do expect those to be -- all to be profitable by the end of the year on a run rate basis. Alabama is pretty close, given the loan growth there. So we should see that this quarter or next and then the others towards the end of the year. So we do expect those to get to profitability by year-end. Yes. All of them should be profitable this year.

And the types of loans, the C&I loans on those markets are similar to the ones you're making in your core markets, just curious if there's any difference in sort of the tender or nature of those loans within the Alibama [indiscernible]?

Yes. You talked about Atlanta and Alabama. I would say, absolutely, they are the exact same things that we do. It's a very similar type customer. Some of them may be slightly larger in size than our smaller markets were not big, but they are exactly the same type of customer we're banking in our other markets.

Got it. And then curious, it sounds like you've already addressed some of the back office FTE head count as such in these and mostly in the mortgage banking unit. Do you worry about that cutting into it impacting revenues? Do you think it's just sort of some of the excess that's been eliminated, that will impact production on the production side.

Yes. Our expectation is that it won't impact production. We've worked hard to really bring on great folks on the origination team and on the back office team, but just as we had built that out, we had excess capacity that just wasn't going to be needed for a while, and so we needed to go in and make sure we got the expense base to match the production side. So we have a real good outlook for production and the markets that we're in, a lot of our mortgage origination comes from Middle Georgia, Augusta and Savannah, and you have very good still housing activity in those markets, limited amount of inventory is a challenge, but very active and good markets. And so with rates leveling out a little bit, we're seeing a lot more activity there.

Got it. And then, T. Heath, still, it sounds like from the preamble, the loan growth gotten to be relatively flat, still being pretty cautious in the construction CRE segment there. Is that safe to say that you'll probably see some attrition there through the year as you move the concentration ratio down?

Well, I think we're -- let's call it, maybe selective on the CRE side. I mean we will see some attrition. But in today's environment, not a lot of payoffs happening. We'll continue to get amortization, of course, on those, but a lot of those are historic loans have been there for a while and would be refinancing at higher rates. So I don't think we'll have a ton of attrition. But at the same time, I think we will be more selective on the new loans that we generate in that portfolio.

And I think what we're seeing, Dave, on the construction side, we have the homebuilder finance business that's also kind of like the mortgage Augusta, Savannah, Middle Georgia, a little bit South Atlanta, we're seeing those builders pull back even despite the fact that they're still having no problems turning inventory and selling they're just -- these builders have been through the cycle and made it through last time and remember that, and they are pulling back on the amount of housing starts they're doing. So we're seeing that sector pull back as well.

You haven't been sent through the crisis last time with you guys being down there. Are you seeing any signs of overbuilding there that the market is pretty well balanced in terms of inventory versus demand, if that shorten...

We don't see any overbuilding happening. There is still a real shortage. These are markets that are still seeing net population growth and just really a very low level of inventory and very fast turn times still in all these markets. So it's -- there's really not any sign of deterioration at this point.

Yes. And the biggest key to that is the lot of inventory. I mean that still becomes a big thing where you've got to where a lot of the builders are having to do their own lives because of the lack of inventory that is out there, which is the bad thing as we go into today's environment.

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

Just wondering if you could talk about the balance between deposit cost and deposit retention. And I mean, it sounds like you think the South Georgia deposits kind of help you versus peers on that front. Is that right?

There's a couple of things with that. It's the markets that we're in that have a little bit less probably a level of competition than the larger markets. And it's also the average size of the depositor is smaller. And so when rates are moving up from an environment we've been in where you're earning nothing on your deposits and it moves to 3% or 4%, that makes a big difference on 100,000, but it makes less difference on 5,000. And so just given the consumer base that we have and the large number of customers, that's helpful. But it is a balance, like you said, and we are trying to manage that the best we can in terms of paying fair deposit rates for our customers, but not blowing up our interest expense at the same time. And that's just something we're balancing every single day. But as you can see from our deposit balances, I think we're doing a pretty good job of balancing that and don't, at this point, see the need to more drastically move those rates up. But obviously, the rates are going to continue to move up as we -- as time goes on, if rates stay at this level, we're going to continue to see those deposit rates move up.

That makes sense. And switching gears, can you remind us of the securities cash flows, just trying to peg AOCI online over the next 18, 24 months and figuring out what incremental is a tangible book you might get out of that?

I'm going to let Derek maybe give you some numbers, but I'll just say that when we think about our valuation and the upside prospects for a spot, the amount of tangible book value that's going to roll back in through time is significant. And so we really think that there's a lot of opportunity for that. And of course, during that time, as I mentioned and as we have on our slides, you'll see the rates are moving up on that that's led to, and we're seeing the maturities. We're just rolling the curve with those. And so there's a lot of opportunity, I think, there for us to see a good bit of book value accretion. Derek, you want to give some of the cash flow numbers?

Yes. So right now, with principal interest and maturities, we're right around that $20 million mark per quarter, plus or minus. And so we're going to -- I think that's pretty -- given this interest rate environment, that's going to be pretty much where we're at in as interest rates move upper bound significantly, which could expand our to in our portfolio, especially on our path to investment.

No, that's super helpful. And just one last question for me. Just thinking about the bank term funding program, I know you guys didn't tap it, and I know now rates have kind of moved up to more or less where FHLB is from what I've heard from other banks. But is there a situation where you consider using it just considering the prepayment penalty? Or do you kind of view it in the same realm as the discount window?

So when it first -- when it was first rolled out and you had it available and then you had the Federal Home Loan Bank was getting hit with all the advances I presume coming from the larger regional banks that spread between FHLB and the bank term funding program was very significant. And at that time, though, I think the concern was if you utilize that, are you -- is there some stigma related to that from the public or from investors, regulators made it clear that they didn't see it that way. And so -- but since things have settled out the home loan bank differential, as you mentioned, isn't as large as it was. The flexibility of having that ability to repay at any time without penalty is nice. But I think still just we're in this environment where you're one new story away from public confidence being potentially damaged. And of course, no news outlet is looking to provide any positive news about the banking industry. And so I just think it's probably not worth it now, especially given that differential. I think we look at it as a backup, and we have looked at and we have pledged some of our more significantly underwater securities to that because it does give you flexibility there, but we will get it more as a backup in more of a situation like that. Just right now, that's an evolving situation as we look at what others are doing, but we don't want to be an outlier there.

Our next question comes from the line of Kevin Fitzsimmons of D.A. Davidson.

This is actually Christian on for Kevin. So just on loan growth. I know you guys mentioned that this year might be flat or slightly up. So are there any certain areas you expect experiencing a slowdown in the loan pipeline? I understand mortgage has definitely seen sort of a pull back. But just wondering if there's anything more specific on that.

Yes. I'll touch on Christian is really, I think our pipeline still looks good. I think some of it has been an intentional shift where a lot of our growth last year was in the CRE side. It's a lot of that shift has just been reducing some of the appetite for the CRE side of today's environment. And so it really would be more kind of reducing that and making sure that we focus on businesses that we can get full relationships with deposits, with loans and actually selling our other ancillary lines of business with them. So it's really more about that. I think we may see a slight tick up in the homebuilder crowd just for the next month or 2 because of the -- its building season. So we'll watch that. But the reality is, I think it's more of the slowing down the CRE side.

Got it. And then just on loan repricing. I wonder if you could provide any color just on how the Mirreprice loan yields look going into the quarter.

Yes, we can do that. I think that -- I think last quarter, our weighted average put on yield was a little over 6%, and this quarter is just a little under 7% so we're seeing that move up nicely. And so we continue to get nice pickups in yield, and we think that will continue to move higher given where rates are today. And so some of our loan portfolio has longer lead times than others, and we're seeing -- we're being able to get the rates we need to get now as demand is a little slower and as I think our competition is all doing what we're doing, and that is looking to lower probably the amount of loan growth that had.

Great. And just one final one for me. So as that demand kind of slows, just wondering how we should think about the provision going forward? I know this quarter was flat on that. I'm just wondering if you had any additional color for that.

Yes. I think that we will I mean, probably see provisions even though loan growth will slow some. I think provisions might not go down as much, just given that some of -- under CECL now, this is very much a forward-looking forecast. And we would not be surprised to see slight increases in net charge-offs just in this environment, nothing major that we see coming down. But we probably wouldn't see provisions come down as much as if there wasn't this economic uncertainty out there and with CECL taking a look at some of those forward-looking factors that we -- that might be getting negative in the coming quarters.

We now have a follow-up question from David Bishop of Hovde Group.

A quick question drilling down on the increase in broker deposits and just the broker deposit portfolio as well. Maybe some details on the tender there in terms of duration and maybe weighted average cost of those deposits?

Yes. I'll let Derek hit on some of the specifics, but I will just say, we've got a very low relative level of brokered deposits, and we looked during the quarter just to ensure liquidity, given what was happening to make sure quarter end liquidity ratios, we time probably get a little more broker than we otherwise would. But we still have a lot of opportunity or a lot of room there if we need it. We have a very low overall total brokered. And you are starting to see that market come in a little bit. And so the differential there between what we can get in our customer markets versus brokered markets is not as large as it was, say, right after those bank barriers. So we'll continue to weigh that out. Derek, do you want to talk about what those cost us.

Yes. So we've had broker deposits that we brought in back into last year and some of those have rolled off and they've been at lower cost. What we've put on more recently has been shorter term in terms of centers, so a year or so or less kind of staggered out different terms there. The cost has been more than those rolling off. So we would see the overall cost increase there. And to give you just kind of some indication on what the broker rates are that we've been putting on has been somewhere plus or minus 5% range. So that's where we expect those costs to be moving to, especially as we see some of these brokers that we took out last year started to roll off, which were at lower interest rates.

As there are no additional questions at this time I'll hand the conference back over to Heath Fountain for closing remarks.

Well, I just want to thank everyone for being on the call today. We appreciate your support of Colony Bankcorp, and we appreciate you being on the call. Thank you. Have a great day.

Ladies and gentlemen, this concludes today's call. Thank you for joining. Have a great day ahead. You may now disconnect your lines.