Columbia Banking System, Inc. (COLB) Earnings Call Transcript & Summary

Thanks. Good morning, everybody. We're pleased to continue the morning with Columbia Banking Systems Inc. We have Clint Stein, the Chairman, President and CEO; and Ivan Seda, the CFO, joining us today. So thanks a lot for coming all the way in from the West Coast.

Thanks for having us.

Maybe starting off -- we're now well into the third quarter. How would you characterize the operating environment today relative to where things stood at the end of July. When you think about customer activity, pipeline, sentiment, competitive behavior, what's gotten better? What's gotten tougher. I guess what surprised you the most.

There's a lot of different aspects to that question. I think that from my perspective, not much has changed in terms of our pipelines are pretty much where they were in July. Customers are still moving forward with their projects and activities and investments. Competition is -- it started really picking up in the second quarter on the deposit side and then some -- what I characterized in the second quarter as borderline irrational things on the loan side, so we still see that. There's still a big push for folks that are just trying to grow totals on their balance sheet. But so far, our bankers have done a great job of navigating that and part of that is the markets that we're in, our positioning within that market. So I guess if I decide to sum up the third quarter, I would say it's just been a continuation of the second quarter.

You just described parts of the market as a rational and increasingly competitive I guess where is that showing up in loans and deposits more specifically? And how are you deciding when to compete aggressively versus when to step away?

So we see it on the loan side. We see it in both pricing and structure. And oftentimes, we can compete on the pricing element. We're not going to relax our underwriting standards and give on structure. Our value proposition isn't to be the low-cost provider or a max proceeds vender. It's -- we work really hard and have for many years to be a trusted adviser. And with that, we expect to get paid for that, that comes with a premium price. So from that perspective, if we're going to compete and get a little more aggressive on pricing, we really look at the entire relationship, what's the profitability of it? What are the offsetting elements of it? Do they have significant noninterest-bearing deposits with us? Do we have their treasury management, their corporate card? Do we have a wealth relationship with the owners or executives? So all of those things, and it's really kind of on a loan-by-loan, customer-by-customer basis that we'll make that determination as to if we want to compete or if we want to walk away. For new relationships, it's a higher bar because you don't have -- you don't already have all of those things. And so that's typically where we'll just step back say, come see us when the market is more rational. The deposit side, it's more excess liquidity that people are chasing yield. And for that, I mean, the way I look at it, and Ivan might feel differently is it's -- what's our alternative, we're not going to pay more or risk cannibalizing the pricing of our entire deposit portfolio, if we can just simply go and replace some of that funding at the Federal Home Loan Bank.

Yes, I would agree with that. I think on the deposit side, the tide shifted in Q2 from my perspective, right, from an environment where I think -- if you go back 6 months, I think there's expectations that rates would continue to decline. That was what was originally within our plan at the beginning of the year. You go back to 6 months ago, I think it was kind of like a slack tide is what I would call it. And then you start to see, I think, in Q2, an expectation for we'll see what happens tomorrow, but rising interest rates, and that's put pressure on funding costs across the entirety of the industry. We see it in our marginal funding cost. And I think what that's required is for us to be very surgical in terms of how we decide to price deposits. And we price, in particular, CDs, money market. The benefit that we have, I think, and what you saw from us in Q2 was continued decrease in the cost of interest-bearing deposits. I think we've signaled that it will be hard to replicate in Q3. I think that if anything, we'll probably be flat or potentially up a little bit because we've had to really be thoughtful around where you place deposit pricing so that our bankers are out there competing for deposits, and we're not tying both hands behind their backs, but at the same time, making sure that we're not making irrational pricing decisions that are going to be a drag on that margin. So it's required a really thoughtful surgical approach to that.

Great. There's several transactions and leadership changes have occurred across California and other Western markets over the last year. How much opportunity do periods of disruption create for Colombia? And where are you seeing the greatest stability to win customers crude talent or gain market share?

Yes, specific to California, that was one of the appealing things for us. I mean one of many appealing banks for us with the Pac Premier acquisition was what it did for us in Southern California and the fact that, that market is fragmented. There's not a clear dominant bank in there. We've seen opportunities from some of the acquisitions that have happened over the past, call it, 3 to 5 years, attracted some great talent in that market that has really built some nice portfolios on both sides of the balance sheet. We see it really throughout our entire footprint in terms of our ability to just be in a space that's different or kind of in a sweet spot when you need to think about our market position and the money center banks don't always want to come down to the level that our business customers are at the smaller banks, they can't -- they don't have the balance sheet or the products or both to serve those customers. And there's only 4 of us west of the Rockies that are between that $50 billion and $100 billion mark and 2 of them have very different business models from us. So that's appealing to customers. It's appealing to talent. When I think about our expansion markets of Colorado, Utah, Arizona and the folks that have joined us in those markets are phenomenal. The -- our legacy markets in the Northwest, likewise, we've attracted talent from, you can pretty much name, any top 10 bank, and we've hired great performers that do really well in our system. So super excited about what we're seeing on the talent front. We don't take it for granted. I've said before that we used to -- our people used to always get recruited by smaller banks. Now we see some of our junior bankers and others that are getting recruited by the large banks as well. So part of that is our market position. Part of it is the kind of people that we have. But we haven't lost any of what I consider our top talent to anybody either upstream or downstream. So that's been helpful. And it's also opened up doors in terms of bringing new customers into the bank.

With that backdrop, does that help accelerate that relationship full relationship banking model -- are you seeing sort of a better uptick in some of those new expansion markets that you've talked about or when you're bringing in a new experience banker?

Absolutely. Yes, especially the ones that are coming from the bigger banks because they're used to having a lot of different products and services and bringing the full assortment of those to the customer and really kind of wrapping their arms around that relationship and they're not shy about asking for it. So that's where we've seen them be really successful, and we're not lacking for any products technology. We're never going to be on the cutting edge, but all of our tech platforms are contemporary. So the bankers know they can go in and compete and they do with anybody. And so that's helped in terms of kind of upskilling even some of our folks that have been with us for a long time, and now they see new people come in a different way of doing it. And it causes everybody to just kind of step up their game.

Great. Over the last year, you've made a conscious decision to shrink lower-return assets while improving profitability. Where would you say Colombia is today in that balance sheet optimization process and how much of the benefit is still ahead of you?

I'll start and then I'll step back and Ivan can give you some details on the numbers. But I think what we're proving out, and we'll continue to do that over the next year is that we can have a smaller balance sheet, be more profitable and have less risk on that balance sheet. And that's why we've been remixing it and why we're committed to continuing to do so. But do you want to talk about kind of what that looks like in the coming year?

Yes. And maybe what I'll do is I'll start kind of look backward for a minute and then talk about kind of what that looks like going forward because I think it's insightful to kind of think about the journey we've been on. And so for those in the room that maybe are not as familiar with our story. I think the question is largely in relation to a component of about 15% of our loan portfolio that we deem to be transactional in nature, right? These are credit relationships that are on our balance sheet from legacy either Umpqua or PPBI lending, where there's really no other relationship that we have. And like I said, that represents about $7 billion. So total loan is about 15%, and that's been declining at a pace of about $1 billion, just over $1 billion per year in terms of volume. If you look back about a year ago, what that's allowed us to do is a handful of things. In the last year, we've added 20 basis points to net interest margin. We've continued to see that step by step, continue to increase over time. We've taken the component of our funding that's reliant upon wholesale down by over 20% at the same period of time. We've added about 10 basis points from Q2 to Q2 in terms of the return profile on an ROA basis. And we've actually, despite putting up a very substantial share buyback program here in the last year we've actually seen our total capital levels increase a little bit from summer of last year to summer of this year. And so I think that optimization has been really a positive factor in terms of the return profile of the bank. You're absolutely right. What it's done is slightly deleverage the bank. And so we've taken loans down slightly and we've signaled for this quarter, that will likely be flat to slightly down. And as you look forward, I think the pace of continued runoff of that portfolio has been measured, which selfishly, from my perspective in terms of managing that balance sheet, I like. We fielded questions over the last year around hey, why don't you sell a component of it now, reposition your balance sheet for us, that doesn't make financial sense for our shareholders. Instead, what we're able to do is see that continue to measure down and over the next year, we've got a significant portion of that $7 billion portfolio that will either reprice or mature. And so when these largely armed products hit their repricing date, they kind of jump back to either market rate loans and are no longer a financial drag to us or they reprice elsewhere, either way, and we can leverage that kind of freed up capital to reinvest. So I think it's been a positive effect in terms of optimizing the earning asset side of our balance sheet. And we expect that to continue. At some point, that pace will slow down, likely kind of in next year, we'll see the pace of kind of the repricing behaviors begin to slow down in that portfolio, and there will be a longer tail to it over several years. But at that point, it will be a smaller portion of our balance sheet. And likely will become less of a headwind from a growth perspective. But like I said, in the meantime, we'll continue that optimization journey we've been on it expect that we'll continue to have favorable financial effects for us.

I think associated with that investors have become increasingly focused on the path to a sustainable 4-plus percent margin. As you think about the next several quarters, what are the biggest drivers of that margin expansion what could cause that time line to change?

Yes. So this is the quarter where we signaled we'll achieve that number likely surpass it. And so we feel good about that. The first part of that really is what we just talked about, the continued remixing of our loan portfolio. And we just talked about it. But essentially, that book is sitting at about 4.1%, 4% coupon today. And so as those loan price, that's a powerful factor for us. And we're seeing, like I mentioned earlier, some of that reprice stay on the balance sheet, some of that prepay and go off our balance sheet go elsewhere. And at the same time, we're replacing that with core relationship-based lending, which in addition to having a higher coupon, higher total return profile also allows us to bring in deposits -- bring in the ancillary fee income, which has been growing really nicely from that perspective. The other side of it is just the funding side. And we're not a bank that is going to put up a 10% growth in core deposits. It really is, from my perspective, core commercial banking up and down every single market that we're in from small business to medium-sized businesses to increasingly larger commercial enterprises. And so when that's humming, I think that's kind of a 2%, 3%, 4% total deposit growth rate, which some folks might not get excited about. I do, because I can see how that compounds over time and we can see the effects. And it's hard to measure in any particular quarter, especially because as you think about the various businesses that we serve, there's seasonality factors for many of the businesses, ebbs and flows in certain business lines that we support. And so it's hard to measure progress in any given month or any given quarter. But when you look back and you see the progress that you've made in terms of the ability to continue to optimize your funding stack that's where, from my seat, it gets really exciting to see that continue to grow over time. And so those are the 2 factors that really I think we look to. I think the business model at its core is we achieved the target balance sheet mix that we want, should be operating kind of in that 4-plus percent range, and that's kind of what our projections are telling us, and that's what we're seeing in the business as well.

Great. On the loan growth side, clearly, you're being impacted by the runoff of the loans that you talked about. When you look at where you're actually seeing production, what are some of the dynamics for new loan production and new loan pipelines where are you seeing the most attractive opportunities for growth today sort of across the franchise?

Well, certainly, we're seeing it in some of our specialty verticals things like our Travel Banking Group, our franchise finance, some of those areas continue to be very strong. But broadly, it's across all of our markets and all of our different verticals. And I was in voice market last week and talking with the team there and they've got so many deals in the works that was talking to me the number of things that they have going and a variety of them. So it's not any one thing. And I'll go back to, I think, it's our position in the market where we're just able to do things quicker differently or better depending on if it's an upstream or downstream competitor. And the other side of it is, and this is something that we work really hard to achieve, and we don't take it for granted is we have customers that prefer their vendors and their business partners to us. And so that also is additive. If -- so I'll just give you an example. In Oregon, we have a customer that just completed a new manufacturing facility. And they're obviously very pleased with our team and the service that we've given them. And they referred the contractor that built their facility to them. And it's a nice couple of hundred million dollar revenue company that was with a top 10 bank and was just not satisfied. So it's not any one thing. And I'll go back to -- we always talk about what are the activities that we're doing. And I've said this for many, many years, even clear back to when I was in Ivan's seat as CFO, we have periods of time where the types of businesses that we bank, they sell, they go through generational transitions and things of that nature. So the totals can ebb and flow. But I always say, what are our activities are bankers are doing the right things. And we've been running the Columbia model ever since the Umpqua acquisition. It wasn't necessarily readily apparent, I don't think, in the first year, 1.5 years. But if you look back now, it's been 3.5 years, a little over 3.5 years, if you look back at where we've had growth in the balance sheet. It's been in those core commercial type products. The totals are starting to show up and you see it translate into the increases that we've had in fee income growth and things of that nature. So -- it's -- I can't just pinpoint it to any particular area, any particular geography. And I know when you look at us from the outside and you look at peer banks, some of them that have put up larger growth numbers have gone all in on 1 sector, 1 vertical. And then if it's disclosable, you can see that. For us, it's just a continuation of doing the things, serving the market, whatever that market is, if it's a no stop white town in Eastern Oregon or if it's downtown L.A., they have very different opportunities, and we want to make sure that we're capturing whatever that market provides for an opportunity.

I guess California feels like it's 1 of the most attractive long-term opportunities for Columbia. As you look at that market today, you feel you have the positioning you need there to gain market share while maintaining that discipline you've talked about?