First Horizon Corporation (FHN) Earnings Call Transcript & Summary

All right. Well, welcome to our next presenter as part of KBW's Winter Financial Services Symposium. Next up, we have First Horizon out of Memphis, Tennessee. They are a little over an $80 billion in asset company with a market cap of $7 billion to $8 billion. Now having acquired IBERIABANK within the last year. Today, from the company, we have their CFO, BJ Losch; and their IR, Aarti Bowman. BJ and Aarti, thanks for joining us. We're going to let BJ hit on a few slides, and then we'll save the back half of our time for some Q&A. If you do have a question that you'd like to ask First Horizon, please submit that to the webcast. So I'll see it and ask it on behalf of you. So BJ, thanks for being with us, and I'll turn it over to you.

Great. Thanks, Brady, and thanks, KBW, for having us again. Wish we're all sitting together in Boca Raton. I'm sitting here looking out my window at some ice on the tree. So not nearly as fun as we usually have, but glad to be here. We'll just point you to Slide 2 on our disclosures around non-GAAP and forward-looking statements before I get started. It's been quite a wild ride the past 12 to 18 months for all of us. And as it relates to our company, though, I'm convinced that there are plenty of silver linings for us as a company. And then hopefully, obviously, for our country as well. And in that spirit, I'll talk about those positives in really 3 different ways as we go through the presentation. Entering 2020, we knew that as a company, putting 2 large companies together in an MOE, we would have to be more inwardly focused, and it would be hard to keep up with the continued growth and strength and business activity across the economy, while we were also trying to put our 2 companies together. Well, clearly, the world changed at the beginning of last year and kind of leveled that playing field for a while. And so instead of having to try to keep up doing that and continue our inward focus, we now actually have a couple of key advantages, we believe, in today's environment that maybe others don't. One is clearly around cost saves. We have merger-related cost saves to take out the organization and make ourselves more efficient. That's number one. Number two, 45% of our loan book is now marked in an environment where we're still hoping for the best, but brace for a continued downturn in credit. And then the third was around the countercyclical performance of our fee income businesses and our ability to weather headwinds on the interest income side with offsets on the fee income side. And so I think we've seen that. So really key themes -- 3 key themes I'm going to just highlight over the next several minutes. One is MOE is progressing well. Number two, we've proven what I call defensive differentiation. We've proven out that these countercyclical businesses that we've always said would perform well in a downturn have actually provided very profitable offsets, and that our risk profile is very strong and will help us weather the storms. And then the third, really, the longer-term focus is building, what I call, offensive differentiation. How do we take these great markets and businesses and great footprint that we now have as a combined organization and reallocate resources to take advantage of that outsized growth opportunity that we think is going to be there. So before I get into these 3, let me just quickly start with an overview of the new First Horizon, if you will, our footprint, our strengths and our major businesses. And you can see we operate and what I would arguably say is the most attractive region of the United States. We expect further growth from in-migration out of other large cities that will be helpful to our population growth, the income and wealth in the business -- excuse me, in the footprint that we operate in, which will be very helpful. We're a commercially oriented business. You can see 3 quarters of our loan portfolio is commercially oriented, and we like that. Because we like to say that we're people led but technology enabled. And we think that, that plays a lot better on the commercial side, where relationships and face-to-face conversations or Zoom-to-Zoom conversations will continue to matter. We have a strong balanced funding base. 1/3 of our deposits are not interest-bearing. And 60% of our deposits are commercial, 40% are consumer. So it's a really healthy balance mix. And right now, we have a really good mix as well of spread income versus fee income. About 2/3 of our revenue is coming from spread income, about 1/3 today is from fee income. If you go to the next page, looking at our major businesses. They're pretty balanced. You'll see that we have 2 major businesses now, our regional banking business, which is the more traditional market-based business, consumer banking -- or excuse me, retail banking, commercial banking, core C&I banking as well as private client wealth. And then on the right-hand side, you have our specialty banking collection of businesses, which have a mix of both what we call asset-driven businesses. You can see on the top right. And then the fee-driven businesses, which are largely the countercyclicals with the treasury business. Right now, about 55% of our PPNR is coming from the regional bank and 45% is coming from specialty. I would expect that over time, it might be more 60-40 regional bank versus specialty or even 2/3, 1/3. But the strength of those countercyclical fee income businesses are shining through. And you can see the strong returns and efficiency ratios, in particular, on the specialty banking side that are generated by those businesses. So we like this really nice, healthy, balanced business mix that we have. Turning to merger integration update, on the next page. As I discussed earlier, merger planning and integration is going well. We're aligning our cultures and making good progress. You can see on the talent side, we're very pleased that of leadership and high-value critical positions, we have over 95% retention. On the SunTrust branch conversion, we're very pleased that we have 94% customer retention at this point, which is excellent performance, and we're very pleased with how that's going in the midst of a pandemic. You can see the early systems conversions that we've done, trying to get as much out of the path of the big bank conversions of the core loan and deposit systems that we expect for the fall of 2021. So we have a lot of work to do, but we're confident that we're going to be able to get it done in a very smooth fashion. You can see on the upper right-hand side, our increased targeted cost saves to $200 million net. You'll see in several slides that we remind people that we're actually targeting $250 million of gross cost saves to achieve $200 million of net. So we've always contemplated a reinvestment in the business for the long term while still making our commitments to The Street about cost saves, which we think is really important. And then the final thing on the bottom right. Though it's still early, we are seeing revenue synergies coming mostly from equipment finance referrals and asset-based lending referrals to the tune of about $350 million of commitments. So great early start to revenue synergies. And over time, we expect a lot more. Turning to the next page. A little bit more on, again, what I call our defensive differentiation from other peers. Our business model resiliency has really proven itself in 2020. If you look in the upper left-hand side, we grew revenues. Total revenues on a combined basis, over 75% more than our peer set in a very tough environment. Everybody took it on the chin, so to speak, on the NII side, but our fee income growth was 5x what our peers were. So those countercyclical businesses really provided profitable growth and profitable PPNR for us to weather a difficult 2020. And you can see on the bottom, those 3 countercyclical businesses and how they performed. And clearly, they had very, very strong performance that we are very pleased with. On the next page, our differentiation, we believe, from a defensive perspective is also on the credit side. Both legacy banks had strong risk selection. Combine this with a loan book that's 45% marked, and we feel very, very good about our credit profile at this point. And if you look in the upper left-hand side, we kind of give you a view well back to the financial crisis of what our NPLs look like versus today and what peers look like versus today. And I think a lot of algorithms and screens that people run still look at great financial crisis, risk metrics for our organization. And though we might have the same name as we did back then, we are a completely different company. It's much like the Tampa Bay Buccaneers of today are very different from the Tampa Bay Buccaneers 12 years ago, different philosophy, different personnel, different management, different talent. And that's what we've got. And so our performance reflects that. And it's also reflected in our stress test results and how they performed versus peers. So we think that this will continue that, combined with our outlook that we gave previously of 25 to 35 basis points in net charge-offs this year, compare very favorably to others in the industry. On the next page, we're looking a little bit towards what I call the third leg, which is the offensive differentiation. We have a huge opportunity to capture strong growth from markets that are very attractive, again, arguably, more attractive than any region in the United States. And we've got to take advantage of that. And we are reallocating relationship manager resources, investment resources and the like to be able to take advantage of that, both in the regional banking business as well as the specialty banking business. I view our business is almost like a car. The established markets, like a Memphis, Tennessee or Knoxville, Tennessee or Louisiana are the engine. They provide steady capital, steady returns, very good efficiency but maybe not as much growth. But to make the engine really go, we need fuel. And the fuel that we've got right now are these very attractive medium to lower share, high-growth markets that we are now in across the southeastern part of the United States as well as the specialty businesses, which we're very excited about and believe that we -- that give us a great runway for growth going forward. If you go to the next page, I alluded to earlier that we've -- we had $170 million of net cost saves. We upped that to $200 million, but the real internal number is a gross cost save of $250 million, which we believe that we will get. And we're going to take $50 million of that and put it back into the business such that we still get to our targeted $200 million that we committed, but that we are investing for the future in things that you see on the bottom half of this slide. Things like a state-of-the-art loan origination and treasury management platform. We're experimenting with a cloud-based core in our small online virtual bank. We've upgraded our mobile and online banking applications, and there's more to come. So we are not standing still. Integration of systems is #1 priority. But we're also investing for the future while getting the cost saves that we have committed to deliver. If you go to the next page, what's all this mean? We have said from the beginning when we put our companies together that we are targeting top quartile returns, and we believe that we can deliver that. And so from a medium-term target perspective, we've laid out a little bit of how we see that playing out going forward with some high-level assumptions. One is on the left-hand side. If we have a continued near-0 rate environment like we have today with the current short and long term rates where they are, we think a 12% to 14% ROTCE is very achievable, assuming, as you see at the bottom, a 9.5% CET1 provision roughly equaling charge-offs and a stable tax rate. If you look at what we had pre-pandemic and move back towards that kind of rate environment, we think we can get more into the 15% to 17% return range with those same type of broad assumptions. So we think that this compares very favorably to the rest of the industry, and we are committed to delivering on these medium-term targets and pulling the levers either defensive or offensive that we have at our disposal at any given point to make sure that, that happens. So to wrap up on last page. MOE is on track. We've got proven defensive differentiation in our countercyclicals and our credit. And we're building a strong offense with an attractive franchise and a balanced approach to our growth markets and our specialty businesses. So with that, Brady, I appreciate you letting me give a quick overview and happy to take any questions.

Great. Thanks for that, BJ. Why don't we start on the cost save slide? I know it sounds like you have always internally thought about reinvesting some of those cost saves. But I think the $250 million of gross is a new number for you guys. So maybe just talk about the $50 million of reinvestment. Is that something that has been planned when you announced the deal? Or is that something that really came about in this kind of post-COVID world?

It was always planned, Brady. We just talked about a net number. But our internal planning initially started with a $220 million number with a net of $170 million. And now as we've gotten further into the merger planning as well as a pandemic world, we see an incremental $30 million more of expense opportunities at the same investment level that we were always anticipating. So we believe that we can drop that incremental $30 million to the bottom line, get net $200 million of savings and still give us the technology and personnel investment runway that we need to be successful going forward.

Okay. And the better cost saves, it's similar to how it played out with the CBF deal a few years back. So it's always good to see you guys beat your initial estimate. I mean, is $200 million -- that net $200 million number, is that the right number? Or do you think you could even do a little better than that?

Yes. You sound like Brian Jordan. So he asks this all the time. I think, Brady, in all seriousness, we believe that we've done a pretty good job being expense disciplined over the last several years, whether we were in the midst of a merger or not. And I think that, that's always going to continue. So are we going to stop at net $200 million of saves? No. We're not. Because we do think that post pandemic, there's going to be additional space saving opportunities, physical changes to the physical branch network, robotics, process improvement and the like. So we'll always be improving our cost base, such that our efficiency ratio over time is moving more towards the mid-50s to low 50s and beyond over the long term.

Great. And then, BJ, is there any way to frame the opportunity on the revenue synergy side? I know with CBF, I think you ended up getting about $30 million, if my memory is right. So IBERIA is a larger deal. So any way to frame what that opportunity could be longer term?

Sure. So in an environment today where business activity is pretty muted, we are at just under $10 million of revenue -- annualized revenue synergies already, with about $350 million of loan commitments, 35 different separate referrals make that up. And so -- and that's just the beginning. So we're a 1/3 of where we ultimately ended up with the Capital Bank deal in a muted environment after 6-ish type months. So I think we're going to be well beyond the $30 million of annualized synergies. And the great thing right now is the referrals are predominantly from legacy First Horizon to the IBERIA Equipment Finance Business, which legacy First Horizon didn't have. And then conversely, from the legacy IBERIA business to the asset-based lending business at First Horizon. So it's not just a one-way referral deal. We're using and leveraging each other and the strengths. And I think that's leg number one. Leg number two will be the private client and wealth business that legacy First Horizon had and introducing that into the IBERIA markets, which were less mature, enhanced treasury services. So there's a lot more for us to capture, but it's a really good start.

Next, let's talk about your countercyclical businesses. You have a couple in fee income, most notably your -- on fixed income capital markets measured in ADR. You also have the mortgage warehouse. Rates feel like they're going to be fairly low for a while. But at the same time, if we look at your guidance, you're guiding the fee income down low teens, which is a pretty big drop. I know it feels like your guidance tends to be rather conservative. But maybe just talk about how long these countercyclical businesses can still remain fairly robust?

Sure. So the -- really, the 3 countercyclical businesses, 2 are fee-related, 1 is spread related. I'll start with the fixed income business. We still think that, that can be pretty strong over the next few quarters or even beyond. A couple of reasons. One is it does well when there's market volatility. And we still see market volatility. And number two, even though rates are low, the yield curve, I think, as all of you know, has been steepening and a steeper yield curve, even if it's lower, does help the business. And so those 2 make us confident that we can stay around these levels, plus or minus, over the near-term in fixed income. On the mortgage origination side, as we talked about in the fourth quarter call, we don't think that we're necessarily much smarter than the Mortgage Bankers Association. And their outlook has a reduction in the 20%, 25% year-over-year in originations. And so we use that as a benchmark for what might happen in our mortgage origination business. I'm hopeful that we can do better than that, given mortgage rates continuing to be very low and a lot of refi activity still being attractive. So we'll see. And then the rest of the fee income businesses, banking fees are coming back towards pre-pandemic levels, not quite there. The wealth and brokerage fee income lines are going to move largely with the market. So the 2 main drivers are going to be the fixed income and the mortgage origination businesses.

Okay. Next, let's talk about share buybacks. You talked about your willingness to reengage in buybacks during earnings. Then a couple of days later, you came out with a $500 million buyback authorization, which is -- that's a big number for you guys. You could repurchase 6% to 7% of the company. I know you had a 2-year life on that. But maybe just talk about how aggressive you plan on being on the buyback front this year and into next?

Sure. Well, as always, we would rather put it in loan growth. But as we've talked about, I think, particularly in the front half of the year, that's probably not going to be as robust as any of us would like it to be. And even if it was, I think the way that we expect our earnings to grow and have net retained earnings, we still have some optionality to buy back shares. So we'll be opportunistic about doing that. I think as we look at it, we certainly keep our eye on what tangible book value is, and how much above -- we might be repurchasing shares above tangible book. But on the flip side, we look at what we think the earnings power of the franchise is going forward, that we're in a near 0 rate environment. That's got to improve at some point. Business activity and growth is going to improve. Our cost saves are going to be fully phased-in over the next 12 months. So we think that our earnings power and opportunity, and therefore, our intrinsic value is higher than where we are today. And we couple that with us trading at a discount to peers in terms of multiple. That tells us that we can probably be opportunistic with some share repurchase in the near term. I hope in the back half of the year, we see a lot more loan activity. And that's where we can put our capital. But in the shorter term, we think share buybacks can make some sense.

I agree. So the slide that mentions near term, kind of given the current rate backdrop, a 12% to 14% return on tangible common equity. I think consensus for this year, consensus earnings already has you guys at about a 14% ROTCE so towards the higher end of that range. What could First Horizon do in this backdrop to have a ROTCE above the high end of that range?