Hello, and welcome to the Colony Bank Fourth Quarter 2022 conference call. My name is Harry, and I'll be coordinating your call today. To ask a question during the Q&A, please press star followed by one on your telephone keypad. I'll now hand over to Derek Shelnutt to begin. Derek, please go ahead.
Thanks, Harry. Before we get started today, I would like to go through our standard disclosures. Certain statements we make on this call could be constituted as forward-looking statements within the meaning of the Securities Act of 1933 and the Securities Exchange Act of 1934. Current and prospective investors are cautioned that any such forward-looking statements are not guarantees of future performance but involve known and unknown risks and uncertainties. Factors that could cause these differences include, but are not limited to pandemics, variations with the company's assets, businesses, cash flows, financial condition, prospects, and other results of operations. I would also like to add that during our call today, we will reference both our earnings release and our quarterly investor presentation, both of which were filed yesterday, so please have those available to reference.
With that, I will turn the call over to our Chief Executive Officer, Heath Fountain.
Thanks, Derek. I want to thank everyone for being on the call today. Before I get into the operating results, I want to cover a couple of other things that you read in the release. First, this week, we said goodbye to our longtime team member and director, Terry Hester, who passed away on Sunday. Terry started with Colony in 1978 and served with the company for over 42 years, spending much of his career as our CFO. He was also a director since 1990. Terry was a dedicated member of our team. The Colony family was really part of his family, and he's going to be sorely missed by his family and our team. Our sympathies go out to all those that worked closely with him and certainly to his family.
Second, you saw that we also announced yesterday that Andy Borrmann, our CFO, is leaving the company to pursue other career opportunities. Andy joined us in 2021 through our merger with SouthCrest, and we appreciate all he has contributed in his time here. And we wish him well in his future endeavors. We started a search process for a replacement for Andy. In the meantime, I've been named acting CFO of the holding company. Most of you know I spent 8+ years as the CFO of Heritage Financial Group. We have a deep management bench, and I'm confident I can provide the support that our accounting and finance team needs to make sure we have a smooth transition, and I'm going to serve as the primary investor relations contact for you during this transition.
Also, our Chief Accounting Officer, Derek Shelnutt, who's on this call, has been named the acting CFO of our operating subsidiary, Colony Bank. Derek's a CPA and has experience in public accounting and in banking. He joined our team in 2020 and has played a key role in the development of our accounting team. He's handled a lot of our accounting work when it comes to M&A, also ALCO, and all aspects of operations. I have a lot of confidence in him and his ability to lead us through this transition as well. With those behind us, I'm going to get right into the quarter. We got a good bit to cover. Our earnings were up slightly from last quarter, reporting $0.31 versus $0.30 last quarter.
I wanted to note that our earnings completely came from the banking division this quarter. Slide 13 in our presentation shows you our breakdown by segment. Banking made up all of it for the quarter net. While the earnings are only slightly up for the quarter, we've made significant strides throughout the year in terms of how much of our earnings is coming from our core banking. We of course had significant headwinds from an interest rate perspective on the mortgage banking side this quarter. As rates peaked over seven at the end of the third quarter and going into the fourth, like a lot of other banks with significant mortgage businesses, we saw a real shift from secondary market products into portfolio adjustable rate products during the quarter.
Our gain on sale was down about $500,000 from last quarter, and that's down nearly $1.9 million from the fourth quarter of last year. On slides 16 and 17 in our presentation, you can kind of see how our originations have been impacted. Our originations actually remain strong, but our sales, you know, were down significantly in the fourth quarter as we moved to portfolio products. You know, our strategy really in mortgage right now is to keep our purchase-focused origination team together, give them product to get out to our customers, recruit new originators within our footprint, and just be poised to take advantage of opportunity when rates settle out.
There's a lot of folks in the mortgage business right now, not affiliated with banks that are really getting out, and I think it'll be primed when rates settle out a little bit. Our net interest margin was down slightly. It went down from 3.25% to 3.23%, but our net interest income in dollars was up over $500,000 , primarily due to our loan growth. What's happening is our loan growth is outpacing our deposit growth, so we are having to fund some things at our marginal cost, that's putting some pressure on our cost to funds. We really feel good about where our deposits are. We've maintained good discipline on deposit pricing and still been able to grow our deposits.
We're up 2.5% quarter-over-quarter, and that excludes any wholesale deposits. You're gonna hear D talk about our deposit focus in a minute. It's a tough environment to predict interest rates. You know, we may see our margin stabilize or compress slightly from this level, but we have opportunities to continue to put on higher earning assets, you know, at levels that may be slightly dilutive to NIM, but are gonna be accretive to ROA and ROE, and we're gonna do that. Our loan growth, as you saw, was strong, and D. will discuss that as well. Our asset quality remained really good. Nonperformers were flat, and criticized and classified loans went down. With that strong asset quality, we were able to provision a little less this quarter despite the loan growth.
We are, just as a reminder, moving to CECL next quarter, and we continue to model that. As we disclosed last quarter, we think somewhere in the range of a 15%-25% increase in our reserve is gonna happen with that adoption. Of course, CECL is forward- looking, and so, how things will look forward now, from three months from now, not so sure. Just a reminder that that could change. Going in, I wanna talk about our performance and where we're going. We lay out kind of our path to high performance in the presentation, slides nine through 11, but I wanna share three highlights. First is achieving strong organic growth. We are doing that. We're executing that well on the loan side.
I think in this environment, we're executing that well on the deposit side. you know, just growing deposits in this environment is tough, but we're doing it. Increasing non-interest income is the second of our three highlights there. You know, mortgage being down has hurt us obviously on the revenue side, but I think there's real opportunity for that to return. still, you know, our SBSL team's doing strong, and we have opportunity to continue to grow in insurance, merchant, and treasury as well. lastly is just, you know, our real focus now is shifting to internal opportunities. You know, we think M&A is gonna be on the back burner for a while, so we're really just focused internally.
Driving internal referrals, we've just, you know, gotten going with our CRM system internally to track that, focusing on the profitability of our new business lines, ensuring we capture the operating efficiencies from all the investments we've made in technology. Really, it's managing expenses. You know, we've been in a growth mode, and we've been growing significantly. We're limiting, you know, our hiring now to strategic end market hires. We're not gonna be expanding, you know, to new markets right now in this environment. You know, reducing controllable expenses, business development, travel, those kind of things. Also, lowering our core provider costs. We are in the final stages of renegotiating our core agreement, and we expect some sub- cost saves to start flowing from that here in the first quarter of this year.
Just addressing, you know, our overall level of expenses. As you know, since I've been here since 2018, we've averaged 18% growth per year in assets. We've gone from $1.2 billion to just under $3 billion. We've added multiple lines of business, mortgage, the Small Business Specialty Lending group, insurance, merchant. We've gone to new markets. We've done whole bank acquisitions. We've done another number of smaller type acquisitions. You know, we moved into this growth phase at a time the Colony platform was not prepared to go into a growth mode. That's not what they had been in. We've been investing significantly in people, in processes, and technology, and we really have the team in place now. We largely have the systems in place.
Given, you know, where we are, the amount of growth we've experienced, looking ahead, at where, you know, potential slowing economy is, we're really shifting our focus from external opportunities to grow to internal opportunities to improve efficiency and profitability. That's where we're focused on. As we laid out last quarter, slide 12, you know, just talks about how do we get from, you know, our ROA this quarter was 77 basis points, how do we get to that 1.2 run rate by the end of 2024, which is what we've been internally targeting. I'll just walk you through on that slide a few things. You know, excess growth is, you know, higher than normal, caused some excess provision. That's 6 basis points in the quarter.
New lines of business, you know, to get from where they are today, we have some detail on this in there, it's a 6 basis point drag this quarter. Mortgage and SBA, you know, really, year to date have only contributed 6 basis points of ROA. None net, the two netted each other out this quarter and contributed nothing to ROA. You know, those are businesses that really carried us the last couple of years, contributing, you know, about 19 basis points of ROA. Those are gonna be profitable lines for us, and we do expect those to get, you know, somewhere in the 10% of range or 10 basis point range. Finally, loan growth. Y'all know we've been growing loans.
We've really built our infrastructure from a personnel and technology standpoint, you know, both on the front line and the back office to have a fully loaned- up balance sheet. You know, every 5% improvement in our loan- to -deposit, we get about 7 basis points of ROA. You know, you start adding those up that I just went through and, you know, by the end of next year, just with those, you know, we get somewhere around maybe 115. And that's without counting the business lines getting more profitable. That's just them breaking even, and that's without leveraging technology, managing expenses down. You know, that's our plan. Our team comes in every day to execute on that, and we think we can deliver on that.
A Couple more things before I turn it over to D., to talk about production side. Our AOCI, you know, our unrealized loss in our securities portfolio, we saw that go sideways this quarter, which was nice to see after several quarters of rates going up and really causing a negative there. I added some more disclosures. Slides 31 to 35 give you a lot of breakdown of our investment portfolio. We just want you to see that we don't have a lot of credit exposure there. Interest rates are what's driving our losses. We are seeing our yield creep up a little bit, and I'm hopeful that where rates are, we've reached our peak extension there.
I think we're gonna start seeing our duration, our average life come down, and there's a real opportunity to recover a lot of tangible book value as we, you know, see that stabilize. We are taking opportunities from time to time when we see rates move down to trim holdings. We would look at, you know, potential opportunities if we can get a quick payback to trim the portfolio and take losses. We're looking to really avoid that if we're successful on our deposit strategy, especially. Lastly, just on the dividend, $0.11 for the quarter. We're glad to be able to do that for our retail investors. That's about half of our shareholder base, and so it's a very important component of investment for them.
I think it also expresses the confidence we have and our board has in our ability to keep improving our earnings. With those highlights, I'll turn it over to D., and he's gonna talk about the production side of the bank and our business lines.
Thanks, Heath. On the commercial side of the bank, we had another great quarter of loan growth. As Heath mentioned earlier, we had 9.5% growth over last quarter. If you annualize that, it's a 40% annualized growth rate. I do wanna point you to a few slides in here to talk a little bit about the color on the loan portfolio growth. If you look at it starting on page 28, it will break down some of these details. I would say the main point that I'd like to leave you with is on slide 30. Really gives you a breakdown over the last several quarters of the loan-to-values with which we've been originating the CRE.
Our non-owner- occupied CRE portfolio has what I would call a very low loan-to-value. I guess my way of saying it is our customers put cash in the deals, and we feel good about the loans that we've originated. We've had the opportunity to grow the loans, but as you can see with those originations, we've been able to keep strong credit metrics as well. Really, as we move towards the end of the year, we have continued to tighten on our credit based on the environment that we see coming forward. In addition to that, we've moved rates up as the Fed has moved. We've been moving slowly with them.
Approach the end of the year and as we turn year-end, we've been more aggressive in moving rates up, and I'll talk a little bit more about the effect that'll have in our expectations through the first few quarters this year. So as we've raised that up, it's significantly reduced the loan— it should significantly reduce the loan growth from our originations in CRE this year. We definitely will see loan growth slowing. But what I will say is for the first and second quarter, I think we'll still see elevated loan growth. Two reasons. One, we still have a strong pipeline, even with these elevated, with these elevated, with this elevated pricing
In addition to that, we've done construction lending, and as those draws happen on those lines, it will continue to add loan growth to what we do in the first half of the year. Our expectation for the second half of the year is to move back more into kind of our long-term goal of 8% to 12% loan growth, as we maintain the credit discipline that we've put in place as well as execute on the pricing strategy that we've put in place as well. You know, to me, one of the things I think that's been really important with us is, I was glad to report that we had two and a half percent deposit growth over the quarter, and that excludes all wholesale deposits.
To me, that's a really good number in a tough rate environment. We've got good markets for deposit growth, and we've got bankers that can deliver on this deposit growth when called on. Some of the changes that we've made as we go into 2023 is we've really made some significant changes in our incentive plans for the commercial side, and the majority of their plans will be focused on deposit growth as well as referrals to these other ancillary lines that Heath talked about and that I will go into a little bit more in just a minute. This is a new focus for Colony, I think we are starting to see the success. We started this in the third quarter.
I think we had a good number in the third quarter. This 2.5% growth in the fourth quarter, I'm proud of as well. In treasury, we've spent the last year developing our different treasury products and building out the team to help deliver on treasury. It puts us in a position that we can deliver on the customer needs that we have from our commercial customers. In addition, in October, we added a sales manager with years of treasury experience and a structure really that allows us to proactively approach the way we sell and the way we service our commercial deposits. I'm gonna move over and talk a little bit about some of the ancillary lines now.
If you look on the Small Business Specialty Lending or the SBA or government-guaranteed lending, on slide 15, excuse me, I would say that we had a consistently profitable year. If you look at each quarter, we delivered consistent profitability, and I think we can see that hopefully going forward. We have a good pipeline coming into 2023 that is slightly elevated over where we went into 2022. I'll talk a little bit about mortgage. Heath has touched on this a little bit, but while our volumes were the same, we did reduce secondary market sales. One of the focuses that we do have for this year is really shifting that mix back to the secondary market sales. Rates have helped us in the near term.
Rates have come back a little bit and really made those secondary market loans more appealing. The luxury that we did have is we have a balance sheet where we could portfolio loans, and we can keep that origination team together. That is not the long-term strategy that we wanna have. That is more an interim strategy until those rates stabilize. If you look on slides 16 and 17, we've laid out our production year-over-year. If you see our 2023 production and our 2022 production were basically flat, the difference in profitability was the short-term secondary market sales for the year. I also wanna touch on a few of our new markets and our new lines of business, or ancillary lines, as we call them.
For Alabama, we have the LPOs in Huntsville and in Birmingham. We had a little over $20 million in growth at year-end. All of these bankers were hired either at midyear or after, that's a half a year number. Their pipelines are really good. One of the things that we've done with incentive plans, but also with direction, is shifting their groups away from CRE as much and really focusing on operating businesses. Historically, Birmingham and Huntsville have been really good businesses for C&I, or commercial and industrial, loan origination and deposits, and the fees that go with those.
I would also like to say it should become profitable in the next quarter or two based on that loan growth, and the way that we look at it, and we look forward to what their pipeline brings in. I'll touch shortly on marine and RV. We just started originating loans, booked our first loans last week. There will not be much in the numbers here, but it's something that we've been working on to get off the ground. It's a tremendous opportunity for us in the coming few years. Well, I think the best way to describe it from our standpoint is it is a very efficient way for us to generate loans.
In addition, it gives us flexibility in the balance sheet because of those abilities to either hold them or to be able to sell them on the secondary market. In addition to that, it's really just not a big spend for us in the short term until we get it to profitability. In addition, it helps us add consumer loans to our portfolio. My expectation is that we will get to breakeven in the latter part of the year. Lastly, I wanted to mention Ed Kennett, who recently joined our team in November as Chief Revenue Officer, and I wanted to congratulate him on the early effect he's already making. He came to us from Capital City Bank.
He's got a wealth of knowledge in mortgage, which in today's world, it's a great time to have that resource. In addition to that wealth. Really, he's just a career banker and has great experience across the board and is really already starting to make a big difference here. I do like the way he's energized our different ancillary lines about the opportunities that are ahead of them. Even more importantly, making sure, and pushing that we hit the revenue targets that we're talking about and that we stay focused on driving each of those areas to profitability during 2023. With that, Heath, I will turn it back over to you. Thanks.
Thanks, D. That wraps up our prepared comments. With that, I'd ask Harry to open up the line for questions.
Thanks very much. As a reminder, if you'd like to ask a question, please dial star one on the telephone keypad now. Our first question today is from the line of David Bishop of Hovde Group. David, please go ahead.
Yeah, good morning, Heath and D. Appreciate you taking the question. Hey, maybe, D., just, you had sort of alluded to the fact that, you know, you're raising loan pricing and maybe that's been a slow growth here, you know. Given the structure of the portfolio, do you think you were maybe behind the curve or maybe competition in raising loan pricing? Does that maybe give you a little bit of a lift, in terms of loan yields and pricing and margin in the back half of the year? Just how we should think about maybe how that plays out in the margin in the second half of the year.
Yeah, Dave, that's a good question. I do think, you know, we could have certainly raised loan prices always quicker as rates moved up so fast. Just to give you an idea, you know, in the fourth quarter, our weighted average, you know, put on was about a little over 6%, and the quarter before, it was a little under 5%. Go back to the end of last year, it was just barely over 4%. There is some opportunity, I think, to see loan or our loan portfolio yield continue to go up.
If it wasn't for the interim pressure on pricing that's really hard to predict on deposits just with what's going on out there, and, you know, you see a lot of banks are losing funding, which is causing them to get aggressive, you know, I'd be more confident in that, in that margin pickup. I think there's an absolute opportunity to continue to see our loan yield tick up. I don't know if you wanna add to that, D.?
No, I think we've introduced even further pricing guidance, pricing fees with our commercial bankers out there, that we've been raising them as we have moved forward. I would say at this point, I would call us at the curve at this point. While there were because rates have stabilized out just a little bit when they were going up, we wanted to make sure we were honoring commitments to our customers, and we had a balance sheet to be able to take those loans on.
Got it. I'm just curious, where y'all stand these days. I'm sorry. Yeah, curious.
Go ahead.
With CRE concentrations these days. Is that a limiting factor at all for CRE?
We are kinda right at the 100 and 300 concentration limits. You know, we do have some capital at the holding company, we can push down for that. We really, you know, we wanna keep the mix, you know, as close to sorta where it is today. We're gonna see CRE creep up a little bit, just as some of the stuff we've already done, funds up. We're, you know, we're at a place where we really wanna not see a whole lot more, you know, CRE added to the balance sheet.
Yeah, I would say the other thing I would bring up on that is part of it is us wanting to shift just because from an overall pre- profitability to those operating businesses, because those are the ones that bring deposits with them, which is why we've been putting that in. Those are also the ones that we can refer to treasury and merchant services and drive our fee income. As you know, well, anything we can drive in fee income is tremendously additive when we start looking at an ROA standpoint. That's, you know, I think that's part of the focus on the shift as well.
Got it. One more question, I'll hop back into the queue. You know, Heath, as you look out, the budget for OpEx, you know, probably a slow down, you guys were obviously pretty aggressive in expanding this year and hopefully to get the revenue benefits down the line. Do you have a target in mind, either efficiency or a growth rate? You know, should we see that decline from the team so that it's going to be low to mid or high single digits? Just curious, if you have any sort of sense where expense targets are. Thanks.
Yeah, that's a good question. You know, we have, you know, as I talked about, invested significantly, and we've got to now, you know, ensure we get the kind of returns out of those investments we want. We are focused internally on, you know, a lot of projects to reduce operating expenses, and certainly to, you know, basically hiring freeze that isn't, you know, strategic in-market type hires. You know, I think you'll see a little bit of a creep up from our fourth quarter run rate just from the standpoint of things we've done in the fourth quarter. I think as we get into the second and third quarter, we have an opportunity to start to reduce our current run rate.
You know, from a revenue generation standpoint, you know, as the mortgage revenue comes back and as these other lines of business get profitable, you know, we'll be able to sort of grow into that run rate that's a little bit lower than where we are right now.
Okay.
As a reminder, to ask a question, please dial star four oh one on your telephone keypad now. Our next question of the day is from the line of Freddie Strickland of Janney. Freddie, your line is now open.
Hey, good morning. Apologize if I missed this in the opening remarks, but was just curious, what drove the rise in FTE headcount in the fourth quarter? Is there a timeline for these new hires to generate earnings if they're producers?
Yeah. There's really two things driving that. Number one is that the fourth quarter was really the first quarter really, since some of the aftermath of COVID that we've been able to get our retail staffing back to the level that we need to efficiently, and service our customers well in our branch network. That was a good bit of what you saw in Q4. Those are on the, you know, the lower end of the pay there. We did have a number of mortgage hires, and some of those were throughout the year. As you know, we had the opportunity to pick up some production.
I mentioned, I think we mentioned, either on the call or in the earnings release, that we picked up a team in Birmingham, for example, in the fourth quarter. Generally, you know, on those type hires, you know, we're dealing with a three-month type guarantee. I think as we roll into January on the mortgage side, we have rolled all our new producers are out of their guaranteed period, so they'll be in, you know, in the commission world, is how we compensate all our MLOs. Then obviously, you know, we had, as D. mentioned, some of the Alabama team that came in in the third and fourth quarter.
Those are, you know, D. talked about, you know, how, where we are in loans in that group and where we expect them to get. We think that'll be profitable really soon.
Got it. Should we think about, I guess, trying to think about the retail investments. Think about that as an investment in deposit gathering effectively on the retail side? I mean, I know it's kind of filling positions that you've had vacant for a little bit, but I guess my thinking is if you have more folks on the retail side, it's probably a little easier to retain some of those deposits, particularly in the more rural part of the footprint.
Yeah. As I said earlier, the, the rural part of the footprint we have is a great deposit gathering franchise that we have. I would agree that, with that. You know, there are two things to also make sure, is we do are running everything on a staffing model. As we have the transaction and those volumes that are out there, those levels will adjust, you know, either up or down based on the volume that we have. In addition to that, I think it's a good way to think it on the deposit gathering because we introduced a retail, which would include all of our universal bankers that Heath was talking about and our banking center managers.
We've introduced an incentive plan for the first time this year, and it is very heavily driven on deposit gathering, and in addition to that, referral to these other ancillary lines. Yes, that investment is really for that group, is about getting additional deposits. They can help us fund an insurance and also merchant and drive these others to profitability. I think that is the right way to think about it.
Got it. Thanks. That's helpful. Just sticking with deposits, you have municipal deposits in some of these smaller cities, you know, long-time relationships. Are these municipalities asking for rate increases? Have you seen any significant change there in the past 10 months or so?
You know, we do obviously have, you know, municipal relationships in our footprint. It does not represent a large portion of our deposits. I mean, just to give you an idea, at the end of Q2, it was $290 million. At the end of Q4, $320-ish million. So, you know, ours don't fluctuate as much as some other banks do. We do think we have an opportunity to call on more municipalities in this environment. And we've, you know, we've not seen a lot of pressure from them because, you know, I think really more of the concern, a lot of those that we have are operating type accounts. We have not really been active in going out and bidding on municipal deposits.
That is one area with the improvement in the product set and our treasury staffing that we think we have an opportunity to go and really add to what we're doing on the muni side.
Got it. Thanks for taking my questions. I'll step back in the queue.
Thank you. We have a follow-up question from the line of David Bishop. David, your line is now open.
Yeah, Heath, in terms of the improvement, the ROA, the decline in loan growth, is that, does that imply that we're going to see a little bit of diminution or maybe a pullback in the level of provisioning as growth slows, assuming credit holds in there and the economic outlook Maybe directionally how we should think about the provision if growth does slow in the back end?
I definitely think, you know, the lower loan growth certainly plays into that. Again, as D. mentioned, kind of what we envision or like right now is that we may have a quarter or two of loan growth that is above that, lower than it has been these last few quarters, but above our long-term 8%-12% growth rate. However, you know, if you take our, if you take our growth rate and back it down, you know, after these first couple of quarters to a more normal rate, you know, I've still got us, you know, running to about an 80% loan to deposit ratio by the end of next year. You know, that's with a couple of more quarters that are higher and then backing down.
I think provision, you know, will go with it. I guess the only, you know, caveat to that would just be sort of the new CECL modeling that we'll be doing going forward. You know, we'll take into account some forward-looking economic factors that we really haven't been putting in now. I think, you know, I see it definitely trending down as our loan growth trends down, assuming we're able to hold these credit metrics.
Got it. Let me make a follow-up to that and answer your question. I think you mentioned the CECL impact. Remind me again, that's neutral or regulatory capital that's negative to TCE, and that's gonna be, was it 20% of the stated reserve or whatever, the estimate at the moment is?
Yeah. And you're right on that. It is, we disclosed last quarter, and we, you know, we will put an updated disclosure in our 10-Q this quarter, but right now we've got that 15%-25% is the range we put there.
Great. Thank you.
As a final reminder, if you would like to ask a question today, please press star followed by one on your telephone keypad now. That's star one for any further questions. It appears we have no further questions being registered at this time, so I'd like to hand back to Heath for any closing remarks.
Thanks, Harry, and thanks for everyone again, for being on the call today. Appreciate your support of Colony Bankcorp . We appreciate it. We welcome you to reach out to us if you have further questions. Thank you.
Thank you, everyone. This concludes today's call. You may now disconnect your lines.