Zions Bancorporation, National Association (ZION) Earnings Call Transcript & Summary

Hi there, thanks very much.

Hi Ryan. Thank you. .

Thank you for participating. Here's the first one I've seen myself on screen. Maybe to kick it off, it feels like we're finally coming to the end of the pandemic, and hopefully, the variant doesn't derail that. We've seen inflation pick up and is poised to remain elevated and the economy seems to be still doing reasonably well, just given this backdrop. I guess how do you feel Zion is positioned as we head into 2022? And how are things progressing in your markets?

Well, I think that, first of all, in most respects, I think that we feel pretty positive as we head into 2022. We can all be -- worry of any continuing impact of this pandemic on growth, but it's becoming, I think, increasingly clear that even as this pandemic endures that almost everyone has learned how to navigate it and not only navigate but in many cases, really to thrive. We're seeing the emergence of what I think is going to be sustainable loan growth. I think there are reasons to believe that a lot of businesses are in need of building inventory. A lot of businesses are learning that because of the supply chain issues that they're going to have to maybe have a little more inventory than they've been used to working with in the past. So I'm reasonably encouraged. And I think against all of that backdrop is the prospect of probably at least a modestly rising interest rate environment as the Fed is -- becomes concerned about inflation. Inflation cuts both ways in our industry. It's creating challenges in terms of wage pressures, et cetera. But it's -- for many of us who are very kind of balance sheet driven. It's also a real opportunity to see a little stronger income from -- as interest rates respond to this. So I'm feeling pretty good. Where sales, we're seeing better fee income growth, and we think that that's going to be sustainable into '22.

So I have a handful of things in there, Harris. But maybe just to take a step back for a sec. So the bank did a really good job managing through. It was a difficult time given its exposure to small businesses, which we'll touch on shortly. But it really does feel like you're shifting back towards offense. Can you maybe just talk about the shift that's taking place, and how does it position the bank for growth?

Yes. Well, first of all, small businesses really are a big focus for us. We've got about 220,000-plus small business customers, which we define as businesses with revenues of $10 million or less. And as you noted, we had really strong performance with the PPP program. We brought in nearly 20,000 new customers as a result of that program. Most of our small business customers don't borrow. They're an excellent source of deposits, and deposits are not in short supply right now. It's 1 place where we haven't seen supply chain issues is deposits. But I think that we are feeling like there are a lot of opportunities, both to deepen the relationships with not only the new customers we have, but with existing customers. We did about 70,000 [ PPP ] -- energize those relationships. Beyond that, we're seeing opportunities. We expect we're going to see opportunities in real estate capital markets. We've seen better -- much better growth in wealth management, and we think we have a lot of fertile ground to work with, with all these business owners to continue to build that business. So there -- in a variety of ways, I think we're feeling like we can shift back to offense. As we get this big systems project completed. That's going to give us, I think, really an exceptional technology architecture and set of products to work with. So I'm pretty optimistic about the years ahead here.

Harris, maybe to build on some of the things that you mentioned. So you mentioned as part of PPP, you brought in 20,000 new clients in addition to the 50 that were already clients. I think it brought in like $6 billion of deposits, a handful loans and new revenues. Can you maybe just talk about what did you learn from this experience? And how is it now shaping how you approach customer acquisition?

I think the -- perhaps the #1 lesson that came out of this was to appreciate that to -- the world we're in today, I think it's going to require the marriage of both really good technology and really good bankers. And we did 70,000 deals, and every one of them was handled by a banker. We -- it was -- we had a banker talking to the customer, helping them through the process, answering questions, telling them where the deal was. And it turned into, I think, overwhelmingly, a very positive experience for both our bankers, but certainly our customers. And so I think we find ourselves really thinking hard about how do we take that lesson and extend it into other things we do. And particularly at the branch level, it's -- we're going to be doing a lot of work on outreach to customers this next year. We have a new online and mobile platform, customer-facing platform for consumer products, we'll be introducing that for small businesses in the first half of '22. And we'll have a lot of interaction between bankers and customers. And in that process, I think we'll find a lot of opportunity to do additional business.

Harris, one of the other tools that you've used to acquire customers has been utilizing promotional products, I think, particularly in home equity and owner-occupied CRE. Again, what have you learned from this? How is this helping growth? And is this something you expect to do more of out of Zions going forward across the franchise? I know you talked about some of them in winding up -- winding down by the end of the year. What has made you comfortable with proceeding with these? And could we expect more of these going forward?

Yes. Well, we found ourselves with -- the industry generally has seen a lot of deposit growth. We've been -- had perhaps a little more than our normal share. And we sat back and said, boy, we've got 14% of our balance sheet and cash. It's earning us 9 or 10 basis points at the Fed. We've ramped up our securities purchases, but even so, we've continued to see strong deposit growth. And so I felt like it was more useful to take liquidity and put it to work for customers even at an introductory rate for a period of time than they have it sitting at the Fed. And on 12 months out, we have a loan that's going to convert into a well-priced loan. And so it's created some new opportunities. I don't know that it will be a permanent feature for what we do, but it's one that works right now because of our liquidity profile. And we'll possibly continue some of this into '22, but it will all be driven by how much kind of excess liquidity we have on hand. And ultimately, by considerations about not creating an environment in which everything is always on sale here, right? I mean I think pricing discipline is important. But this is just a situation that certainly works for us right now in the present circumstance.

Harris, can you maybe talk about the health of your small business clients? And are they starting to borrow again? And I know you tracked non-PPP, small business loan credit metrics and the like relative to other customers, other size customers? What was the takeaway? And were you surprised with the results.

I think for some time, we've known -- in our bank, small business clients -- the credit outcomes are not materially different from what we've seen with larger commercial borrowers. A lot of what we do is -- most of everything we do is secured, and that certainly helps. On our very smallest loans -- unsecured small business loans. We see higher loss rates currently in the range of kind of 3%, something like that. We price for that. It's not unlike kind of a card business. But where the real volume is, is in loans that are a little larger than that, like I said, they tend to be secured. And the credit experience has always been actually quite good. So I don't know if there are any new learnings, but it certainly reinforced that -- one of the things about small businesses, they're very resilient. In many cases, they -- on the one hand, they don't have always the strongest capitalization. What they do have is the owners blood, sweat and tears and the proceeds of home equity loan tied up in the business. And so they need to make hard decisions and make them quickly. They're scrappy. And it's an industry that we really like. And I think it's -- this may sound corny, but I think it's also where a lot of kind of personal satisfaction comes wrong for bankers. I used to tell bankers that any [indiscernible] lent to a Fortune 500 company. Lending to somebody who started a business 3 years ago, and this has some good quarters and bad quarters, and it's kind of -- and that margin will kind of do you do it or you don't. That's actually -- that actually takes thought and skill and -- but it's also an opportunity to help people build a business. And when it works, it's really highly satisfying. And I think -- so I think just even on kind of an all touristic way, it's a fun place to play for bankers.

Harris, I know you've tried to not be in the business of giving mid-quarter updates, but the outlook for loan growth was pretty upbeat on the earnings call, and we're seeing that coming through in the H8 data. Can you just maybe give us a sense if you're as bullish on loan growth today as you were roughly 60 days ago? And what are the areas that you're feeling best about into 2022? And any other areas for the near term that you wanted to highlight?

Well, yes, I mean I'm not going to say much about this quarter beyond what we said, except to just say I don't think nothing has really changed. I think that it feels like going into '22 for some of the aforementioned reasons in terms of businesses needing to replenish inventories, and that I think there's actually quite a lot of pent-up demand. There's been a lot of stimulus, but a lot of it is still sitting in kind of in savings. I think as consumer gets as they get their feet on the ground, there's -- this is going to play out. We have a new infrastructure build that's going to be another kind of stimulative effect on the economy. That should, I think, produce loan growth next year. We still have this backdrop of a lot of liquidity. But I think to the extent that businesses were going to pay down debt, they probably mostly done that. And going forward, I would hope and expect that we'll see some loan growth. And then particularly in commercial, where I think it's going to have a lot of impact on the economy, generally.

You talked about liquidity. We recently heard from Chairman Powell that inflation is likely to be less transitory than originally thought. The bank, as you said Harris, has built a lot of liquidity, over $11 billion in cash, I think, for the second time in 10 years. And If I go back to last time, the strategy was to hold off on investing it, but this time, you're looking -- you seem to be much more in the camp of aggressively deploying it. So I guess what has changed? And what gets you comfortable that makes sense for you to be much more aggressive this time?

Well, a couple of thoughts about. One is that, I mean, the increase in deposits across the industry has really been driven by money supply that's increased substantially, much more so than it did after the financial crisis even. And when we use the word aggressive, I think we're actually -- it's maybe aggressive, but it's also conservative. I mean we're keeping our securities portfolio a pretty short leash in terms of duration. And so it's a belief that this liquidity is going to be with us for some time, and that by going out into a relatively short duration that we're going to be okay. It's showing up -- the portfolio is throwing off a lot of cash. It's certainly going to accommodate a lot of loan growth. And if things get out of control in terms of rates, we're in a position where it's not going to do a lot of damage. I think that's the main thing.

Maybe taking it a step further, the bank has talked about adding swaps to temper some of the natural asset sensitivity. So Harris, maybe to take you back a long time ago from your CFO days, why is it reducing your rate exposure, the right decision at this point? And why not wait for rates to rise just given how close we seem to be to the next tightening cycle?

It's actually -- I mean we'd be hugely asset sensitive. If we've -- but for what we're doing with securities, and to a lesser degree with swaps. What we're doing with swaps is still is reasonably modest. It's not -- and I think likely to remain so. So I don't think anything has fundamentally changed about my -- the way I think about things. It's just we've become much more asset sensitive. No small measure because of the amount of deposit growth we've seen, and a belief that it's going to stick around for a bit. So we're kind of replenishing swaps, but it's not -- we're not really building the swaps portfolio in any material way. We are doing it with securities, but not so much swaps.

Harris mentioned earlier just a moment ago about the infrastructure bill, and we've watched the Fed continue to add to the money supply. So we've had a view for some time that the money supply was going to continue to grow at a pretty strong pace. There's been a long-standing correlation between the growth of money supply and the growth of deposits at commercial banks. And as a result of that, and some of our own internal analysis, we felt very comfortable deploying the cash into securities because we felt that it would stick around for a while, and we had some time. The other point that I would make is that we've been very methodical about the investing, the pace of investing. So we're not doing $10 billion in a single quarter. It's about a $2 billion pace of growth per quarter in the securities portfolio. So it's -- gives us plenty of time to change tack if we see something developed in the environment that we need to make an adjustment.

I guess a 2-part question. You've been outpacing the industry in terms of deposit growth. Some of this is attributable to the new clients that you brought in. But even after that, it looks like you're still outperforming. So can you maybe just talk about expectations for deposit growth looking forward? And then second, if we are to get into a rising rate cycle, design had amongst the lowest deposit betas in the industry last time. And I was wondering, just given how flush the industry is with liquidity? How do you see pricing dynamics evolving over the course of the next rising rate cycle relative to the last one?

Well, I think, first of all, in terms of the outlook for deposit growth, it's really going to be driven by, I think, fundamentally by what the Fed does in terms of money supply. It feels like that they'll be kind of turning down the tap. And I would expect that we'll see deposit growth slowing across the industry. I -- we find ourselves with -- all of us with historically low deposit pricing. And I would expect that as we start to see rates rise, that deposit betas are going to be incredibly well behaved. It's obviously something that -- to some extent, it's a competitive thing. I mean you have to be kind of looking at what competitors are doing. But we'll come into this in a position to be able to be pretty disciplined, I think, about deposit costs as rates start to increase, at least during the first 100-plus basis point portion of whatever happens here.

Harris, we talked earlier about the outstanding job the company did on PPP, but it's obviously created a bit of a revenue headwind for the company into 2022. And I guess the question that the industry is trying to figure out, is there enough leverage from loan growth and deploying liquidity that can help make up for the shortfall from PPP. And what impact will this have on the company's ability to generate operating leverage in the intermediate time?

Well, yes, I mean it's -- I guess kind of a high class kind of a problem. My -- to be challenged by a prior success isn't necessarily a bad thing. I think that we'll still have some PPP tailwinds, at least in the early innings of '22. We've got a couple of billion dollars of PPP loans still on the balance sheet. And so that will help a little bit. But beyond that, I do believe that loan growth can supplant that. And if we have some interest rate relief in the form of a hike or 2, that certainly will help as well. So it will be a challenging year because I think on the cost side, there are going to be pressures. Everybody is experiencing labor and wage pressures. But I -- so, it's going to be a tough year, but one in which I think we can -- we'll see some revenue growth. I'm not looking for it to be the most stellar year in terms of operating leverage in our history because of the PPP tailwind that we had in the last a year or 2. But I think we'll have -- I'm looking forward to a pretty good year in '22.

I guess maybe just to follow up on that. Just given the fact that operating leverage could be challenging, given some of the headwinds, how do you think about balancing the risk of investments? And also how big of a risk inflation could be for the company into next year?

Well, in terms of investments, we're all making technology investments, which is -- we have to be doing that. And that's what's really driving investment spend, I think, across the industry, certainly in our case. We've had this particular feature of having a lot of work done on core systems replacement. That will be -- will fundamentally be at the end of that project in terms of all of the development work by the end of next year, and then implementing it still into '23. But -- and so as we get out a little further, I think that's going to create a little bit of relief. But in the meantime, there are very real pressures from labor market and wage pressures and costs, but also just spending on -- I suspect most all of us are spending more heavily on information security and operational resilience today than we have been, the ransomware landscape, et cetera. It's something that we all have to be paying attention to, and it requires real investment to do it. All of that said, I think we've, I think, had really disciplined cost controls in place for some years now. It's going to be tougher next year, but we'll still be working really hard on the cost side of the equation. So I'm hopeful that we'll see the revenue increasing enough to absorb a lot of that, but it's not going to be a banner year for operating leverage.

Got it. Makes sense. Harris, in your opening remarks, you referenced strength in fee income across a couple of areas. This has been an initiative for the bank for as long as I can remember. And it feels like more recently, you've had a bit of an inflection point in terms of fee growth. Can you maybe just talk about what areas are driving this? And as you look ahead, what are the areas you're most excited about that you're gaining real traction in?

Sure. Well, in our case, it's for most banks. Our card fees have shown real strength this year. It's up about 15% year-over-year, so far. Commercial account fees of various types, up about 8% year-over-year. We've seen a lot of strength in wealth management which I'm really pleased with, it's up about 23% through October over the same period last year, and has real traction. . We have a small specialty health care payments business that we started a few years ago that's been very much under the radar, but it's actually seen some real traction growth, a company called 340BDirect that saw a 5.5% -- $5.5 million in revenue increase in the first 10 months of this year. It's about a 35% increase. It's off of a small base, but it's growing nicely. Some of the areas that I -- looking into next year, I think that there are opportunities to see strong growth from the small business space in terms of commercial account fees. We have a product called Treasury Management Select. That's designed for small businesses. That's starting to see some reasonable traction. And wealth management is an area where I think we still have a lot of runway, and we'll see some strong growth in the -- not only next year but the next few years. So those are some of the places that I'm particularly focused, I guess.

Harris, I wanted to switch gears for the next few minutes to talk a little bit about the tech transformation before we wrap it up with capital. So you talked before about finishing the development work and then implementation into '23. Those are obviously the major milestones. But what are some of the benefits that you're seeing today at the banks that other banks that haven't gone through this journey are not seeing? And then second, what is the next step in the tech journey? Is it more storage on the cloud, greater customer-facing? Where do you go next once we get through the implementation?

Yes. So this core systems replacement project, it's fundamental -- it's most of the loans, the loan products we have, and all of the deposits. It has been a long journey. We're kind of 9 years into about a 10-year journey, and we'll be good to see that come to a conclusion. It has already, I would -- the first thing I would -- really importantly, that I would say is the big benefit that comes from -- a lot of it has been realized as we go. And that is that it forced us to do a lot of cleanup and streamlining processes and product sets, et cetera, in advance of these big systems conversions. And fundamentally, that focus has been really critical to keeping expenses pretty flat over the last few years, even as we're spending a lot of money on the actual project. Once we complete this, and in early -- in kind of the first half of '23, we'll have a very modern set of core systems for loans and deposits. We are simultaneously building around that things such as a customer data hub that will make it much easier for us to set a core systems for loans and deposits. We are simultaneously building around that things such as a customer data hub that will make it much easier for us to create reports internally, provide information to customers on a more holistic basis. API, integration fabric, as we call it, a lot of work on kind of the internal plumbing that allows us to use this new platform to create more simplicity internally. And also, more -- a lot of focus is going to be, as I mentioned, on the resiliency, being able to fill over immediately between data centers or to the cloud. So those are some of the places that we're focused, but also on consumer-facing -- customer-facing products, and how we better deliver those digitally. So more to come on that, but those are fundamentally where our priorities lie.

Harris, by the time the transformation is implemented, I think you'll have been at it for almost 10 years, and you articulate you spend a lot of money. Like what will this allow you to do better than peers? Is it better revenue growth? Is it lower expense growth? How will investors be able to judge the success of this journey?

Well, it's -- I think it's kind of all of the above. It's going to result in a better customer experience, we believe. I think it will -- and at lower cost, and I think with less risk. I mean because we'll no longer have nearly as many kind of systems that are -- you have to integrate and kind of bolt together. But ultimately, it's going to provide a much better experience in our branches. It's going to give every -- all of our branch personnel, a modern platform where it's really easy to open accounts. It's going to reduce training costs and time because it's all point-and-click intuitive, much easier path toward understanding how to get things done internally. It's -- but it's really a combination of customer experience doing it at lower cost I would expect, and helping to manage risk, including just technology risk, which is a big deal these days. I think it's one of the big risks we face in the industry. It's just as making this transformation from very old legacy systems into a modern digital era. And it takes a lot of investment in time. I think we're ahead of the pack in that respect. And I think it will produce benefits. Some of them -- I like in this to building the interstate freeway sometimes when it was built. It was built for -- it was built by Eisenhower, our -- concocted under Eisenhower for National Defense. That's really not how it paid for itself. It was -- it really transformed the way we all move around on our highway system, and a big corporate project like that feels analogous to that because I think it's going to create a lot of opportunities that we -- some of which we probably don't even understand yet. But along the way, it's forced us to become much more streamlined internally, and that itself has been worth the journey.

Maybe one last question for me, Harris, with 2 parts. You've continued to talk about wanting to run capital levels at a moderately higher than peer level. I guess, just given where we are in the economic cycle, combined with the company's risk profile, is that the right decision? And then second, as it pertains to capital, I think I've asked this question every year for the last 5. Once we're done with future core and all these investments you've made, does this allow you to scale the organization and become a choice acquirer for community or smaller banks?

Yes. First is the capital. I might -- very simply, I want to be sure that -- I don't know what the right capital level is. I don't think anybody really does, except that it's -- I mean we use stress testing and everything else to try to figure that out. But at the end of the day, to some extent, it's kind of a relative game. I want to be sure that whenever the next real challenge comes, and it will come in our industry. They -- I don't think any of us believe that we won't see some major downturn or challenge that is -- could get ugly for the industry. But we want to be -- I want to have us ahead of the pack. We -- risk profile -- I think we have, in fact, really improved the risk profile of the place. Over the last several years -- in the last 5 years, our net charge-offs have run about 14 basis points on average. The industry has been much higher than that. This year, we're running at 1 basis point. The industry is running at, I think, 27 or something, you maybe know. But I -- so I think the -- I think we've got a good balance sheet risk profile, strong core deposit base, et cetera. But frankly, you get into a downturn, nobody cares about risk profile. It's all about what your capital look like. And so I want to be sure that we've got a pretty reasonable capital. But that target could change, but it's -- I expect it to be staying a little ahead of the pack. As for M&A, having this systems project completed won't be a reason to go out and look for things to buy. I think it will enable us if the opportunity arises that makes sense for us, I think we'll have something really quite elegant by industry standards to put any other bank on to this kind of a platform, but it's going to have to make sense. And right now, I mean, we -- it's just hard to make sense as much. We just haven't been looking because we've been very focused internally. But when we start to look, we'll be looking at -- is it a commercially oriented bank, is it kind of fit our profile well run, good credit, et cetera, et cetera, and cost save opportunities. So those are the things that would be on our minds, I suspect.

Great. Well, unfortunately, we're out of time, but Harris, James, thank you very much.

Thank you very much for having us.