Trustmark Corporation (NASDAQ:TRMK) Q4 2022 Earnings Call Transcript

Trustmark Corporation (NASDAQ:TRMK) Q4 2022 Earnings Call Transcript January 25, 2023

Operator: Good morning, ladies and gentlemen, and welcome to Trustmark Corporation’s Fourth Quarter Earnings Conference Call. At this time, all participants are in a listen-only mode. Following the presentation this morning, there will be a question-and-answer session. As a reminder, this call is being recorded It is now my pleasure to introduce Mr. Joey Rein, Director of Corporate Strategy at Trustmark.

Joey Rein: Good morning. I’d like to remind everyone that a copy of our fourth quarter earnings release, as well as the slide presentation that we will discuss this morning, is available on the Investor Relations section of our website at Trustmark.com. During the course of our call, management may make forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. We would like to caution you that these forward-looking statements may differ materially from actual results due to a number of risks and uncertainties, which are outlined in our earnings release, and our other filings with the Securities and Exchange Commission. At this time, I’d like to introduce Duane Dewey, President and CEO of Trustmark.

Duane Dewey: Thank you, Joey, and good morning, everyone. Thank you for joining us. With me this morning are Tom Owens, our Chief Financial Officer, Barry Harvey, our Chief Credit and Operations Officer, and Tom Chambers, our Chief accounting officer. Trustmark had a solid fourth quarter, as reflected by record loan growth, expansion of the net interest margin, solid performance in our insurance and wealth management businesses, and strong credit quality. As we previously disclosed, Trustmark agreed to a settlement that, pending court approval, will resolve all current and potential future claims relating to litigation involving the Stanford Financial Group that began in 2009. In the fourth quarter, Trustmark recognized litigation settlement expense of $100.75 million.

With this charge, Trustmark reported a fourth quarter net loss of $34.1 million or $0.56 per diluted share. The settlement reduced fourth quarter net income by $75.6 million or $1.24 per diluted share. For the full year, Trustmark’s net income totaled $71.9 million, representing diluted earnings per share of $1.17. We believe the settlement is in the best interest of Trustmark and our shareholders as it eliminates risk, ongoing expense, and uncertainty. With this issue behind us, we’re focused on the future and the opportunities ahead. Excluding the litigation settlement expense, Trustmark’s net income in the fourth quarter totaled $41.5 million, or $0.68 per diluted share, and $147.5 million for the full year 2022, representing diluted earnings per share of $2.40.

Now, let’s look at our financial highlights in a little more detail by turning to Slide 3. At December 31, loans held for investment totaled $12.2 billion, an increase of $618 million linked-quarter, and $2 billion or 19.1% from the prior year. Deposits totaled $14.4 billion, an increase of $12.5 million from the prior quarter, and a decrease of $650 million or 4.3% year-over-year. Revenue in the fourth quarter totaled $191.8 million, up 1.6% linked-quarter. For the year 2022, revenue totaled $700 million, an increase of $60 million or 9.3% from the prior year. Net interest income totaled $150 million in the fourth quarter, an increase of $11 million or 7.9% linked-quarter. Non-interest income totaled $45.2 million, and represented 23.6% of total revenue in the fourth quarter.

Non-Interest expense in the fourth quarter, excluding the litigation settlement, totaled $130.5 million or 3% increase linked-quarter. For the year, non-interest expense, excluding the litigation settlement, totaled $502.5 million, a 2.7% increase from the prior year. Credit quality remains solid this quarter as net charge-offs represented six basis points of average loans. The allowance for credit losses for loans held for investment represented nearly 400% of total non-accrual loans, excluding individually evaluated loans. Non-accrual loans declined 2.9% in the fourth quarter, and total non-performing assets declined 4.1%. Including the impact of the settlement, we continue to maintain strong capital levels, with a common tier one capital ratio of 9.74%, and a total risk-based capital ratio of 11.91%.

The board declared a quarterly cash dividend of $0.23 per share, payable March 15th to shareholders of record on March 1st. At this time, I’d like to ask Barry to provide color on loan growth and credit quality.

Barry Harvey: I’ll be glad to, Duane, and thank you. Turning to Slide 4, loans held for investment totaled $12.2 billion as of 12/31, an increase, as Duane mentioned, of $618 million linked-quarter, or 5.3%, and $2 billion or 19.1% for the prior year. We’re extremely excited about the Q4 loan growth that occurred in almost every category. We do expect to continue solid loan growth through 2023. Our loan portfolio continues to be well diversified based upon both product type, as well as geography. Looking at Slide 5, Trustmark’s CRE portfolio is 93% vertical, with 61% existing and 39% construction land development. Our construction land development portfolio is 81% construction. The bank’s owner occupied portfolio has a nice mix between real estate types, as well as industries.

Turning to Slide 6, the bank’s commercial portfolio is well diversified, as you can see across numerous industry segments, with no single category exceeding 12%. Moving now to Slide 7, our provision for credit losses for loans held for investment was $6.9 million in the fourth quarter, primarily attributed both to loan growth and the weakening in the macroeconomic forecast. The provision for credit losses for off balance sheet credit exposure was $5.2 million in the fourth quarter, primarily driven by increases in unfunded commitments and the macroeconomic forecast. At 12/31/2022, the allowance for credit losses on loans held for investments totaled $120.2 million. Looking at Slide 8, we continue to post solid credit quality metrics. The allowance for credit losses represents 0.99% of loans held for investment, and nearly 400% of non-accrual loans, excluding those that are individually analyzed.

In the fourth quarter, net charge-offs totaled $1.7 million or 0.06 of average loans. Net charge-offs for the entire year totaled only $920,000, or 0.01%. Both non-accruals and non-performing assets remain near historically low levels. Duane.

Duane Dewey: Thank you, Barry. Now turning to the liability side of the balance sheet, I’d like to ask Tom Owens to discuss our deposit base and net interest margin.

Tom Owens: Thanks Duane, and good morning, everyone. Looking at deposits on Slide 9, deposits totaled $14.4 billion at December 31, a $12.5 million increase linked-quarter, and a $650 million decrease year-over-year. The linked-quarter increase was driven by an increase in public fund balances, more than offset by a decline in non-personal balances, while personal deposit balances were essentially flat. The year-over-year decrease was driven primarily by decreases in non-personal and public fund balances, with only about 10% of the decrease driven by personal deposit balance suits. So, the granularity of our deposit base remains strong. Our cost of interest-bearing deposits increased by 51 basis points from the prior quarter to 71 basis points.

We continue to maintain a favorable deposit mix, with 28% of our balances in non-interest-bearing deposits, and 64% in checking accounts. Turning our attention to revenue on Slide 10, net interest income FTE increased $11 million linked-quarter, totaling $150 million, which resulted in a net interest margin of 366, representing a linked-quarter increase of 16 basis points. Higher loan balances and yields contributed about $24 million and $6.2 million, respectively, of lift linked-quarter. That was partially offset by a $13.3 million increase in deposit costs, and a $6.6 million increase in net borrowing expense. Drivers of the continued expansion during the quarter in net interest margin included continuing lags in realized deposit betas, ongoing Fed rate increases, and a continued shift in earning asset mix.

Turning to Slide 11, the balance sheet remains well positioned for higher interest rates, with substantial asset sensitivity driven by loan portfolio mix, with 49% variable rate coupon. During the fourth quarter, we continued implementation of the cash flow hedging program to manage our asset sensitivity by adding up $150 million notional of interest rate swaps, with a weighted average maturity of 4.1 years, and weighted average receive fixed rate of 3.64%, which brought the portfolio notional at year-end to $825 million, with a weighted average maturity of 3.4 years, and a weighted average received fixed rate of 310. The year one increase in NII to immediate interest rate shocks, remains asset-sensitive at about 2% for a 100 basis-point shock, about 3% for a 200 basis-point shock, and about 5% for a 300 basis-point shock, with the benefit in years two and beyond increasing as the balance sheet continues to reprice.

Turning to Slide 12, non-interest income for the fourth quarter totaled $45.2 million, a $7.4 million linked-quarter decrease, and a $16.8 million decrease full year. The linked-quarter and full year changes are principally due to lower mortgage banking revenue, which was substantially offset by increases in other line items full year. Service charges on deposit accounts totaled $11.2 million in the fourth quarter, a linked-quarter decrease of $156,000, while increasing $8.9 million or 26.8% full year. Bank card and other fees totaled $8.2 million in the fourth quarter, a linked-quarter decrease of $1.1 million, while increasing $1.4 million or 4.2% full year. And insurance revenue totaled $12 million in the fourth quarter. That’s a normal seasonal decline of $1.9 million, while increasing $5.2 million or 10.7% full year.

For the fourth quarter, non-Interest income represented 23.6% of total revenue, continuing to demonstrate a well-diversified revenue stream. Now, looking at Slide 13, mortgage banking. Mortgage banking revenue totaled $3.4 million in the fourth quarter. That’s a $3.5 million decrease linked-quarter, driven by a $1.3 million decrease in gain on sale, and a $1 million increase in negative hedge ineffectiveness, which brought negative hedge ineffectiveness for the quarter to $3.6 million. For the year, mortgage banking declined by $35.4 million, driven by reduced gain on sale. Mortgage loan production totaled $391 million in the fourth quarter, a decrease of 23% linked-quarter. Reduction for the full year totaled $2.1 billion, a decrease of 24% year-over-year.

Retail production remained strong in the fourth quarter, representing 83% of volume or about $325 million. Loans sold in the secondary market represented 46% of production, while loans held on balance sheet represented 54%. The majority of loans going into the portfolio consist of 15-year and hybrid arms, while we’ve continued to sell, rather than retain our conforming 30-year loan originations. Gain on sale margin increased by about 8% linked-quarter from 181 basis points in the third quarter, to 196 basis points in the fourth quarter. And now, I’ll ask Tom Chambers to cover non-interest expense and capital management.

Tom Chambers: Thank you, Tom. Turning to Slide 14, you’ll see a detail of our non-interest expense broken out between adjusted, other, and total. Adjusted non-interest expense was $129.8 million in the fourth quarter, a linked-quarter increase of $4.3 million or 3.4%. We had non-recurring expenses during the fourth quarter totaling $3 million related to severance from the FIT2GROW organizational restructuring initiative, early lease termination expense related to closed branch offices, and legal fees. Excluding these non-recurring expenses, non-interest expense increased $1.2 million or 1% linked-quarter. As noted on Slide 15, Trustmark remains well positioned from a capital perspective. At December 31, our capital ratios remain solid, with a common equity tier one ratio of 9.74%, and a total risk-based capital ratio of 11.91%.

Trustmark did not repurchase any of its common shares during the fourth quarter. During 2022, Trustmark repurchased $24.6 million or approximately 789,000 shares of its common stock. The Board of Directors previous previously authorized a new stock repurchase program, under which up to $50 million of its outstanding common shares, may be acquired through December 31, 2023. This authorization replaces the prior stock repurchase program, which expired on December 31, 2022. While our capital ratios declined linked-quarter, driven by the combination of robust loan growth and the Stanford litigation settlement, our capital ratios remain substantially above well-capitalized, and our capital position is ample to implement our corporate priorities and initiatives.

Although we maintain $50 million of authority during 2023 under our board-authorized stock repurchase program, we are unlikely to engage in stock repurchase in a meaningful way. For the time being, our priority for capital deployment is through organic lending. Back to you, Duane.

Duane Dewey: Great. Thank you, Tom. Turning to Slide 16, let’s review our outlook. Let’s look first at the balance sheet. We’re expecting loans held for investment to grow mid to high single digits for the year. Note, our Atlanta office is now staffed with a very solid production team, including our equipment finance organization, will start to contribute in coming quarters. Security balances are expected to decline by high single digits based on non-reinvestment of portfolio cash flows. Deposit balances are expected to grow mid-single digits full year, driven by promotional campaign activity. Moving on to the income statement, we’re expecting net interest incomes to grow low to mid-single digits, reflecting flat full year net interest margin based on current market-implied forward rates.

The provision for credit losses, including unfunded commitments, is dependent upon future loan growth and current macroeconomic forecasts, and is expected to be above 2022 levels. Net charge-offs that require additional reserving, are expected to be nominal, based on the current outlook and portfolio. From a non-interest income perspective, we expect service charges and bank card fees to remain stable, reflecting elimination of consumer NSF fees, and the implementation of a transactional de minimis levels on consumer checking accounts as we previously announced, as well as by reduced customer derivative activity. Mortgage banking revenue is expected to stabilize at the prior year level. Insurance revenue is expected to increase high single digits full year, with wealth management expected to increase mid-single digits.

Non-interest expense is expected to increase mid-single digits for the year. This reflects general inflationary pressures, and is subject to the impact of commissions in mortgage insurance and wealth management. We remain intently focused on our FIT2GROW initiatives, as discussed throughout 2022. As noted, we’ve expanded our team of talented production staff, added a significant new line of business, expanded in growth markets, all of which will begin to contribute in 2023. Additionally, we’ve invested in technology across the franchise to better serve customers and become more efficient. We’ve continued to optimize our retail franchise, with the closing of 12 offices and the deployment of new ATM and ITM technology. We believe this focus and investment positions Trustmark to provide profitable growth into the future.

Finally, we will continue a disciplined approach to capital deployment, with preference for organic loan growth, potential M&A, and opportunistic share repurchases. With that overview of our fourth quarter financial results and outlook commentary, we’d like to open the floor for questions.

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Q&A Session

Operator: We will now begin the question-and-answer session. And the first question will be from Catherine Mealor from KBW. Please go ahead.

Catherine Mealor: Thanks. Good morning. I wanted see if we could first just dive into the lower NII guide. If you could just provide a little bit of commentary on how you’re thinking about cumulative deposit betas and maybe the trajection of the margin over the course of the year to get to that lower NII guide. Thanks.

Tom Owens: Sure. So, good morning, Catherine. This is Tom Owens, and thank you for the question. So, as I think we indicated on last quarter’s call – well, let me say it this way. With respect to our plan for deposit growth for ’23, we’re approaching it. We’re building that – we’ve built that plan from the bottom up based on the team here internally. As we said on last quarter’s call, we continue – our forecast is based on market-implied forwards, which continued at the Fed Funds Rate topping out about 5% here by the end of the first quarter, and basically staying there for the remainder of the year. We’re continuing to model a full cycle beta by the time we get into late third, early fourth quarter of 2023, of about 50%. And so, that means our interest-bearing deposit costs that we’re modeling for later in the year, rises to about 2.5%.

And as I said, we’ve built that from the bottom up, the plan. And when I look at it from the top down, it is consistent with our historical actual experience. I mean, it’s been a long time now since the Fed Funds Rate was at 5%. But when I look at the historical experience for our company, as well as the broader industry, the results make sense. The other aspect of it is, we had very robust loan growth in 2022. We anticipate continued follow-through momentum per the guide that Duane gave. And our loan to deposit ratio in the quarter rose to 85%. So, we’re really focused on maintaining strong liquidity. We really would rather that loan to deposit ratio not go above 90%. And with the trajectory of loan growth relative to deposit growth, we’re really focused on beginning to accelerate deposit growth.

We essentially were flat for the quarter. We would like to accelerate deposit growth as we come here into €˜23. The other thing I’ll say, I’ll state the obvious, which is, it’s really an unprecedented environment in terms of you look at the headwinds facing the industry in terms of if you look at the Fed H8 report and you see continuing month-over-month declines in the aggregate deposit base in the United States, it is a challenging environment as the Fed continues to reduce accommodation and withdraw liquidity from the system. So, there’s a lot of uncertainty obviously in the forecast. The other thing I’ll say is, here in the first quarter is when we’re really beginning to launch promotional deposit campaigns in earnest. We started to do that a bit in December, and that was a contributor, the promotional activity to us being able to maintain essentially flat personal deposits during the quarter, which we’re very encouraged by.