Texas Capital Bancshares, Inc.
Q1 2021 Earnings Call Transcript

Published: 21 Apr 2021

[Operator:]

Welcome to the Texas Capital Bancshares Q1 2021 Earnings Conference Call. All participants will be in listen-only mode during the presentation. Please note, this event is being recorded. . I would now like to turn the call over to Jamie Britton, Director of Investor Relations and Corporate Finance. Please go ahead.

[Jamie Britton:]

Thank you. Good afternoon and thank you for joining us for TCBI's First Quarter 2021 Earnings Conference Call. I'm Jamie Britton, Director of Investor Relations.

[Rob Holmes:]

Good afternoon, everyone. This is Rob Holmes. And I'm excited to be hosting our first quarter conference call as Texas Capital Bank's new President and CEO. Here with me, as Jamie said is Julie Anderson, our CFO. As many of you know, I left a wonderful position, running a global business at one of the best financial services firms in the world to join the team here. I believe this is evidence of the board's true commitment to invest in and build a best-in-class regional bank through a disciplined, organic strategy. With that backdrop, I would like to take a couple of minutes to speak more broadly about why I came here, what I discovered, and where we have been focused during the quarter. So why is quite simple. First, I was born and raised in Texas, and went to both college and graduate school in this day. And while I've been primarily focused outside of Texas for the last 20 plus years, I'm intimately familiar with this great communities, institutions, companies and people. There is no region with a more constructive business climate and because of these pro-business policies and attitude, Texas has one of the largest and most diverse economies in the world, with a GDP of $1.9 trillion, which puts our footprint in one of the top economies worldwide. Companies with strong goals here are committing to even greater investments in the state and more importantly, many others continue to enter the market. With over 25 significant corporate relocations announced last year, and over 15 announced so far this year. More people are moving to Texas today than the other state and nation.

[Julie Anderson:]

Thanks, Rob. My comments will cover Slides 5 through 11. Were pleased with the solid financial performance in the first quarter and more importantly, the actions taken during the quarter to strengthen our balance sheet and position us for the future. With respect to our operating results, total revenue for the first quarter was $239 million and as expected, was downs in the fourth quarter as a result of seasonality in the mortgage finance business, but consistent with the first quarter of 2020. Our non-interest expense was down meaningfully from the first quarter last year and flat on a linked quarter basis. We had a very modest release in reserves, resulting in a small negative provision as economic conditions continue to improve. We're confident in the quality of the portfolio, we continue to be cautious and conservative in our evaluation. A few noteworthy items for the quarter I want to highlight. Loan fees were down from the fourth quarter and we've included additional detail which should be helpful in understanding the slight fluctuations that can be evidenced in poor loan yields as a result. We continue to have PPP fees yet to be earned and expect a similar level in fees to be our next quarter. We participated in the second round of PPP, which net of forgiven loans resulted in an additional $110 million in balances. As Rob mentioned, we're selling the MSR portfolio and winding down the correspondent lending business. This aligns with our strategic focus on more predictable learning, while allowing for a reallocation of a substantial portion of the expense base into frontline talent and improved capabilities to support the C&I business. It's important to understand that there will be a lag in the revenue from these investments. Overall credit trends continue to improve. Net charge-offs were down materially to only $6.4 million and non-accruals continue to decrease from levels experience last year. Despite the improving economic outlook and underlying credit fundamentals, we remain disciplined and conservative with the substantial risks built over the last 18-months. Our allowance for credit losses on loans, excluding mortgage finance loans is 1.57%, up from 1.18% at the end of the fourth quarter 2019 and currently represents 2.5 times non-accrual loan. We did experience a slight increase in total criticized loans related to care and specifically hospitality exposures, which are appropriately reserved for and we feel comfortable with underlying structures, including the LTVs and the overall borrower support. Importantly, there was a slowing of negative migration from the watch category to special mention.

[Rob Holmes:]

Thank you, Julie. So why don't we open up for questions Sarah, please?

[Operator:]

Thank you. First question comes from Brady Gailey with KBW. Please go ahead.

[Brady Gailey:]

Thank you. Good afternoon, guys.

[Rob Holmes:]

Hi, Brady.

[Brady Gailey:]

Yeah, I thought we could just start with the MSR sale. I know that unit was profitable for you all last year, it looks like it was profitable in the first quarter. Julie, could you just help us understand, some of the dynamics that will go away? Now, I think there's a couple of fee income components that goes away as well as some expense components.

[Rob Holmes:]

Hey, Brady. Can I start with just kind of why we did it? And then maybe Julie can help with that if f that's okay?

[Brady Gailey:]

That'd be great.

[Rob Holmes:]

Yeah. Number one, they attract two and a half times the capital of regular loan for us. We don't have a broad consumer platform to fully leverage MSR assets. And then lastly, it could contribute to great volatility of earnings overtime. So in an effort to like simplify the balance sheet and make it safer in earnings more consistent and help our capital position for all those reasons. I think it's a good business, we actually got it to scale. But it's not a good business for this time in the lifecycle of Texas Capital. It was a great business. So that's why we did it. I think that'll help you understand. And then Julie why don't you answer the question?

[Julie Anderson:]

Sure. Brady, that's what we provided a little extra detail in the slide deck this time. Slide 6, there's a breakout of all the different components of correspondent lending. A couple of them, you've always been able to see on the face of the financials, the net interest income component. And then there's a couple of components in non-interest income. And so I think you've been able to see that. What you haven't had in the past is the expense component, which we've gone ahead and given you. And as I said in my comments that we would expect to reallocate those expenses, to some of the other investments that we're focused on right now.

[Brady Gailey:]

Okay. All right. Great. And then I also want to ask about loan growth. Loans were kind of flat linked quarter, which is honestly pretty good relative to the rest of the industry. But I just want to ask, as far as loan demand, do you see it picking up? At this point, a lot of people are talking about kind of the back half of the year, where we could see some nice loan growth. And then maybe outside of like the near-term loan growth. Maybe just Rob, when you think about the company, what do you think is the potential that Texas Capital could do longer term from a loan growth point of view, considering you're in such attractive markets?

[Rob Holmes:]

You want to take - do you want to do the financial first? Why don't I answer first, and then if Julie has anything to clean up, she can? I think Brady, we spoke to you on investor call early on. You may have heard me say that the loan growth will be an output of our clients' needs will not target loan growth. I actually think that that may have been part of the calculus that got us to where we were last year. So that's not to say that we don't aspire to have loan growth. The KPI, if you will for loan work would be do more with the clients that we have, and also add clients to our platform. We have a very low market share of clients in Texas. And as you said, and I've said many times, we couldn't find ourselves in a more constructive market. So we'll have loan growth, but it'll be an outcome of banking these clients to the corporate life cycle.

[Brady Gailey:]

All right. And then finally for me, I know Julie had mentioned that expenses year-over-year would be roughly flat. But at the same time, I now Rob, you're adding a bunch of great talent. So I just wanted an update on kind of how you're thinking about the expense base from here.

[Julie Anderson:]

Yeah. So Brady, I think that will give you more detail on that when we rollout the more comprehensive plan in the third quarter. I think what I will say is, is just reiterate a comment that both Rob and I made that we're re-underwriting all spend, all initiatives. And again, now with the one down of correspondent lending, we'll certainly be focused on how some of those expenses can be reallocated. So really more to come in more granular detail in the third quarter.

[Rob Holmes:]

And Brady, I would just emphasize the spin re-underwrite is kind of both soft and hard dollar spend meaning running the place then and also investing. So it's both types.

[Brady Gailey:]

Okay, great. Thanks for the collar, guys.

[Julie Anderson:]

Sure.

[Operator:]

Our next question comes from Brett Rabatin with Hovde Group. Please go ahead.

[Brett Rabatin:]

Hey, good afternoon, everyone.

[Julie Anderson:]

Hey Brett.

[Brett Rabatin:]

Want to just - Julie, a question for you off the back here. Like yourselves, like many others continue to build on a mountain of cash. And it's obviously not a super-attractive time to deploy a ton of the liquidity into securities that that might be underwater at some point. Can you just talk about the balances as you see it with deploying some of the liquidity? And how think the next few quarters might play out from that perspective? And what you might do with the balance sheet to try and mitigate the excess liquidity?

[Julie Anderson:]

Sure. Brett, happy to answer that. So I think that - we took a look - with Rob joining us less than 100 days ago, we took a little bit of a pause on redeploying any of the excess cash. And at the same time, we had some additional growth in deposits. So at the end of the first quarter, I will tell you that I think our cash balances were too hot. I think you will see us, we're still working on the final plan for how the allocation of different asset classes are going to be on the balance sheet. But one thing that you will see us start to do a little more aggressively, will pick up. We will, again, start to redeploy some into securities, as you said. I don't think we're not going to go crazy on that. But I think you'll see a little bit of additional redeployment into securities. And then - but also on the liability side, we're going to be more aggressively managing some of those higher cost higher beta deposits. So you'll see why you would think you'll see a little bit more aggressive action on that in the second quarter. And then again, when we roll out the more holistic plan in the third quarter, I think that will that will help inform kind of what we think liquidity levels are going to look like for the longer term.

[Brett Rabatin:]

Okay. And then as it relates to that, Julie, would it be fair to say that you think that the margin this quarter is kind of just a one quarter blip here, just from this culmination of excess liquidity? Or how do you think about the margin from here? Then obviously, there's a lot of damage to go in that, but maybe just any thoughts around the margin?

[Julie Anderson:]

Sure, I try to stay away from just focusing on the margin. We focus on the different pieces of it. But again, the excess liquidity obviously continues to be a drag. So to the extent we're able to reduce that sum that will improve the margin. There was some outsized loan fees in the fourth quarter, that I think first quarter was back to a more normal run-rate. And then on the remixing on the liability side, the deposit side, that's going to continue to improve the margin.

[Brett Rabatin:]

Okay. And then I just had one last quick one around the increase in criticized loans that you mentioned, were mostly around commercial real estate hospitality. Seems like that's a bit of an outlier for the industry. I think most folks had that movement last year is opposed to this quarter. And a lot of folks are talking about improved ADRs with hospitality. Was there a reason that these hadn't been moved previously? Can you give us any quick thoughts around why now that increase in criticized loans and hospitality?

[Julie Anderson:]

Yeah. So I think that we've been actually pretty aggressive at downgrading for the past year. And so the movement that we saw in the first quarter was some that were in the watch category that had already previously had been identified. So that entire book - I think we've been pretty transparent about that the CRE book, the hospitality piece, which is not that large of a piece. It's about - I think about $400 million overall. A meaningful percentage of that is somewhere in criticized. And this was just part of the category that moved from watch to special mentions. So we don't - we think it was what we would have expected.

[Brett Rabatin:]

Okay, great. Fair enough. Thanks for all the color.

[Operator:]

Our next question comes from Jennifer Demba with Truist Securities. Please go ahead.

[Jennifer Demba:]

Thank you. Good afternoon. Question. Rob, you said you're going to disclose more details on the strategy in the third quarter. Will that be part of the earnings call or would it be a separate event?

[Rob Holmes:]

It will be a separate. It will be between the second and third quarter earnings call. and we dedicated solely to the strategy. I think it's too important of a reset in a call GAAP earnings mixed in and hopefully you all appreciate that focus.

[Jennifer Demba:]

Definitely. Rob, you mentioned earlier in your monologue that the company would have an organic focus. Would acquisitions ever become part of the strategy in your mind? We know there are a lot of discussions going on in the industry today?

[Rob Holmes:]

Yeah, theirs is. There is a lot of activity and I'm certainly not surprised by it. There's a lot of industrial logic. But what we see in and what I mentioned in my opening remarks about, I feel like the board and we and I are committed to organic strategy. There is so much more that this bank can do that we haven't done yet product, services, market, clients. And we don't need anybody's permission. And the organic strategies and much less or beta than an acquisition. So while I'm wide open to ideas, and thoughts and opportunities to strategic alternatives, other than organic, especially given my background doing that for a living. I do think that the right course of action right now is just to focus on the organic go forward to that.

[Jennifer Demba:]

Thank you.

[Rob Holmes:]

Thank you.

[Operator:]

Our next question comes from Ebrahim Poonawala with Bank of America. Please go ahead.

[Ebrahim Poonawala:]

Good afternoon. I guess Julie, just to follow up, appreciate not wanting to give any margin outlook given the moving pieces. But given the impact we saw on our loan fees, the PPP fees, if you could give some color just in terms of where you see NII headed, relative to the first quarter levels.

[Julie Anderson:]

So again, Ebrahim, I would just take you back to the different pieces. I think mortgage finance seasonally lower in the first quarter. Again, we're not going to give any overall guidance on volumes, but seasonally a little bit lower in the first quarter. I think there are levers there that we have to make sure that business remains strong. I think that yield have held up really well. We could see a little bit of compression in it. But we think it's held up well. On the core book, again, we've given a little more detail so that you can kind of parse out the different components in loan fees. I think, growth in loan, I think Rob's already kind of addressed that. It will be when it is. And we're not sure exactly what that looks like, over the next couple of quarters. And then on deposits, I think we expect that deposit costs will continue to come down. One we still got some brokered - higher cost brokered CDs that are rolling off, which will give us some pickup. And then again, we're going to be a little bit more aggressive on managing some of the higher cost higher beta deposit categories.

[Ebrahim Poonawala:]

Got it. I guess so certainly a question for Rob. Thanks for prepared remarks. I think you mentioned that the brand is bruised. And I think that's not missed on anyone who followed the bank for the last several years. I guess - I appreciate you taking your time in terms of giving a strategic update on the bank. But what would be the message to a shareholder who stuck with the company for the last several years, in terms of as we think about when we start seeing the fruits of your strategic plan? Is that by the end of this year, is that by the first half of next year? Anything that you can at least provide qualitatively that could sort someone to hang in there?

[Rob Holmes:]

Yeah. I would just say that there is an entirely different team running this thing today than there's one in the past seven years. A different philosophy, a different strategy with different backgrounds. I ran a business that was multiple sides of this global on the best financial services platform in the world with every product and service. I was possible for businesses and corporate Taxes Capital at that platform that were multiples of size. Tim Storms the same thing on Risk, Nancy, Treasury. We're going to have some other adds soon as it relates to experience and depth and quality of management. And you supplement that with what we have here and the people that are still here. And I think it's a great bet. So I only think you can compare seven years ago with today. And I hope what you want and you can tell me that third quarter if you do.

[Ebrahim Poonawala:]

Got it. Thanks for taking the questions.

[Rob Holmes:]

Thank you.

[Operator:]

Our next question comes from Brad Milsaps with PSC. Please go ahead.

[Brad Milsaps:]

Hey, good evening.

[Julie Anderson:]

Hey, Brad.

[Brad Milsaps:]

Hey, Julie. Hey, Rob, welcome. Just want to follow up on the expense discussion as it relates to the MCA business. I think the correspondent business had about $80 million expenses in the first quarter. You mentioned you wanted to reallocate those. I assume that's not something that occurs sort of overnight that these would be investments that you would make overtime. The $80 million annualized is more than $70 million. So, just wanted to kind of think through sort of how quickly you see expenses ramp back up.

[Julie Anderson:]

Yeah, that's very fair. That would not happen overnight it would happen overtime. And again, we won't get into specifics about that until the third quarter. But yes - I mean I think we've already alluded to some of the hiring that's already happening and the hiring that that we're looking to happen. So I think that's meaningful parts of that. But yeah, again, to the speed and how that's going to look, we'll talk more about that in the third quarter. But your point is very fair, that that's not going to be reinvested overnight.

[Brad Milsaps:]

Okay. And then secondly, I think I saw in the deck that your $3 billion or so of borrowings are going to go away in the second quarter. Are you now going to require to buy the FHLB to hold a certain percentage of advances against the warehouse, is that something that's changed? You do mention here that overnight borrowings may continue, but just kind of curious on how to think about that wholesale funding source as relates to your warehouse business? You obviously don't need it, but just kind of curious how to think about it.

[Julie Anderson:]

Yeah, we do. And I think we've talked about that pretty candidly before. Because of the facility that we have, we've agreed that we will hold about 30% of the outstanding mortgage finance book. So yeah, but that slips through and that all the term all ran-off in the first quarter and that slips to the 30% is overnight money, as opposed to the higher term rate.

[Brad Milsaps:]

Okay. Got it. Got it. So you'll pick up a little bit there. Okay. That's fair. And then finally, Rob, just kind of bigger picture question. When you look at Texas Capital, I understand you may not be able to answer this yet. But at $40 billion in assets clearly the balance sheets a bit gloated. Can you give us a sense of kind of what you feel kind of the right size of the bank should be kind of over the near, intermediate term, as you kind of think about kind of how to approach the market from a size standpoint?

[Rob Holmes:]

So, I'll acknowledge that my view, when I looked at the balance sheet before I started. And since then it is - it's - I don't know if I would use the word gloated, but certainly it could be rationalized. And hopefully, a decision to sell the MSR assets and wind down correspondent lending is evidence of our willingness to make pretty decisive decisions pretty quickly. I mean, that was decided, maybe my third week here and that takes a while to execute. So I would agree with you. We're going to be very disciplined about capital. I mentioned the balance sheet committee, who are going to address that . So we need to be more focused, and use it with great discernment. And we will manage the balance sheet appropriately going forward.

[Brad Milsaps:]

Great, thank you.

[Rob Holmes:]

Thank you.

[Operator:]

Our next question comes from Anthony Elian with JPMorgan. Please go ahead.

[Anthony Elian:]

Hi, everyone, and welcome Rob. A follow up on the sale of the correspondent business. So you reaffirm the commitment to the other mortgage businesses. I guess, how are you thinking about these businesses more specifically mortgage finance, especially with the backdrop of higher rates as volumes could normalize lower from here?

[Rob Holmes:]

Yeah. The difference between the warehouse and the MSRs, the warehouse is in a different category in terms of consistency of earnings and conservative products that we put to the warehouse, and the type of business that we do and the structure that we employ, which remember, I was responsible for a very large warehouse in my past life, I understand this business scope, I went through COVID with the business starting a forbearance and stuff. We have a safe and sound warehouse business. There's a number of things we can do to influence the volumes through their cycles. And I hope you've noticed that the first quarter down reduction is seasonal, yet to see if it's cyclical, but certainly not out of place seasonally. But we have participations that we're talking about openly off-balance sheet that we can bring on balance sheet. We have a number of prospects, many of whom I've spoken with, that want to use us that are great clients that we'd be proud to have, that we're talking to about bringing balances on. And there's other products, like I said, we're using safe and sound products in the mortgage warehouse with the right structures. But there are products that we can expand into, that does not increase risk. So and historically, if you look at our warehouse, we're not as price sensitive, as the competition. We're certainly not news that we have outperformed. So between all those things, we think we can manage it, we will be affected. But we appreciate the earnings that they contribute.

[Anthony Elian:]

Okay. And then, Julie, I know you mentioned that it'll take time for the new initiatives to show the signs of revenue impact. I guess, after you identified these new initiatives, how long will it take to start recognizing the revenue from? Is this more of a 2021 event or likely in 2022?

[Rob Holmes:]

Can I take that?

[Julie Anderson:]

Yes.

[Rob Holmes:]

It's hard to answer that. I'm not trying to be not forthcoming for candidate as I promised to be. But it's hard to answer that we haven't identified the new initiative. So let us rollout with that, if that's okay. And then we'll be very deliberate and giving great guidance on the raft of those initiatives, both revenue and expense.

[Anthony Elian:]

Okay. And then finally for me. I know a couple of quarters ago, you guys had talked about the new deposit verticals. I know, Bask Bank was one of them. I guess, where do you stand on those now? Is there an update you have? Thank you.

[Rob Holmes:]

So we invested in a new escrow platform and we're standing behind that. I would just say the whole deposit vertical, Bask Bank decisions and go-forward strategy will be part of the broader initiative. Look, we have some overpriced deposits on the balance sheet today, if we just speak candidly. I think Julie mentioned, we'll be more aggressive with those. And Bask and the deposit protocol will be a part of that overall contemplation that we rollout in the third quarter. I mean, the funding of the bank is part of the strategy. You can't - they're late. So that'll be a big part of the discussion.

[Anthony Elian:]

Great, thank you.

[Operator:]

Our next question comes from Michael Rose with Raymond James. Please go ahead.

[Michael Rose:]

Hey, good afternoon. Thanks for taking my questions. Maybe just want on credit. So you guys had a reserve released this quarter. Julie, where do you guys think just line of sight? I mean, should we expect pretty low levels of revision assuming the economic backdrop remains relatively stable here. And do you think you can get back to kind of day one post-Cecil day one reserve levels, if things continue to improve? Thanks.

[Julie Anderson:]

So, I think that I'll make a few comments about kind of why we ended up with a small negative provision? We benefited from the de risking that we did in 2020. So I thought we were ahead of all of that lower charge-off lower NPAs. But as I said in my comments, I mean, while economic conditions are improving, we're still going to be cautious and conservative in how we evaluate it. So I don't - I guess I'm not going to - we're not going to give any guidance and what we think provision is going to be going forward. We feel good about the book. We feel like that the book - the credit book is much different than it was a year ago. The composition of the criticized, the CRE is solid, we feel good. That book has been - we have been so deliberate in client selection all along. The structure is good. So we feel good about that. But again, I think we want to reserve the right to be cautious and conservative. And my new CEO will tell you he is very conservative with that.

[Michael Rose:]

Understood. And maybe just one bigger picture question. A lot of talk around the warehouse, a lot of talk about where you've been. Rob, you've come from a much bigger bank with many different fee lines of business. And so I guess that's the question. As you think about kind of intermediate term, are there any sorts of businesses that you think might make strategic fit for you to enter in Obviously, you're exiting some in the near term, but is there any just line of sight that might make sense for kind of the business bank that you seek to be as you move forward? Thanks.

[Rob Holmes:]

Yeah. You got it. So I'll answer part of it, because that's part of the whole strategy around - part of the whole conversation around strategy. We don't - we definitely recognize that our fee income is low for some peers. There will be a focus going forward. Because the obvious ones that we'll focus on, in addition to a broader strategy would be what we've already said, which is T times be the treasury business, and what we're going to do there. And then also our wealth management business, which is a really great platform that needs scale. So both those businesses, you should look at going forward as contributors. And then we should talk about the rest of their quarter.

[Michael Rose:]

Very helpful. Maybe just one final one for me, I'll try. I know you're not going to give any sort of margin guidance. But just given some liquidity deployment, opportunities to move forward and just given where the margin was this quarter. Do you think NII actually just grows throughout the year from here?

[Julie Anderson:]

Again, Michael, I'll kind of walk through the different pieces of that. We have levers on the mortgage finance. We're not - where yields can, we would expect that they could come down some but we're usually not as affected as the overall market with that Securities, we would expect to redeploy some additional excess cash into securities, which would be some pickup. And then again, I think some of the work that we're doing on deposits. So I guess I'm not going to give specific guidance on exactly what it's going to look like from quarter-to-quarter. But those are the different pieces and how I think they're going to trend. Hopefully, that's helpful.

[Michael Rose:]

Yeah, very helpful. Thanks for taking my questions.

[Julie Anderson:]

Sure.

[Operator:]

Our next question comes from Peter Winter with Wedbush Securities. Please go ahead.

[Peter Winter:]

That was my question on the fee income. So I'm all set. Thank you. Looking forward to working with your Rob.

[Rob Holmes:]

Yeah. Thank you, Peter. Me as well.

[Operator:]

This concludes our question-and-answer session. I will now turn the conference back over the President and CEO, Rob Holmes for any closing remarks.

[Rob Holmes:]

Look, I just want to say I really appreciate everybody's investment, time and interest in Texas Capital. And I look forward to working with each of you and being transparent. And we're excited about the third quarter call. And everybody stay safe. Thanks for your time.

[Operator:]

Thank you for your participation in TCBI's Q1, 2021 earnings conference call. Please direct requests for follow up questions to Julie Anderson at [e-mail]. You may now disconnect.