Good morning, and welcome to the SouthState Corporation quarterly earnings conference call. Today's call is being recorded, and all participants will be in listen-only mode for the first part of the call. Later, we will open the line for questions with the research analyst community. I will now turn the call over to Jim Mabry, SouthState Corporation Executive Vice President in charge of Investor Relations and M&A.
Thank you for calling in today to the SouthState Corporation earnings conference call. Before beginning, I want to remind listeners that the discussion contains forward-looking statements regarding our financial condition and results. Please refer to slide number two for cautions regarding forward-looking statements and discussion regarding the use of non-GAAP measures. I would now like to introduce Robert Hill, our Chief Executive Officer, who will begin the call.
Good morning. I'll begin the call by providing an overview of the 2018 performance and then offer insight on our near-term focus. John Pollok will review the year in more detail, and we will conclude the call with questions from research analysts. 2018 was a year of significant transition for SouthState. While digesting over 60% growth from two recent mergers, repositioning the loan portfolio, making technology investments, and absorbing the revenue reduction of Durbin, the company still increased adjusted EPS by 13%. 2018 was a year where two of our three primary objectives were accomplished. Significant steps were made in building upon the soundness of the bank, and profitability metrics continued to be very good. Our growth, however, was slower than normal during 2018. In December, we hosted an investor day in New York featuring our executive team and three members of our board of directors.
The purpose of this day was to provide more clarity around our key strategic objectives. The company enters 2019 with a focus on growing what has been built over the last couple of decades. Our goal is to have success in all three of the primary objectives in 2019 while building a franchise that is deep and dense in great markets. For the year, net income was $178.9 million, or $4.86 per diluted share, representing a 1.23% return on average assets and 14.93% return on tangible equity. Adjusted net income totaled $202.1 million, or $5.50 per diluted share, and represents a 1.39% return on assets and 16.76% return on tangible equity. We made the strategic decision to reduce certain segments of the acquired loan portfolio around 3% and still experienced 4% net loan growth for the year. I'm particularly pleased with the 23% growth in commercial production, excluding CRE.
Over the past several months, we have rolled out a new commercial treasury platform. Conversion of existing customers is going smoothly, and the expanded capabilities provided by the new system have already led to success in winning new customers to the bank. Asset quality remains at record levels, with total net loan losses of $125,000 for the year. Non-performing assets represented 0.28% of total assets, up only three basis points from a year ago. Our portfolio is diverse in both type and geography and is granular, with an average loan size of less than $130,000. Loans at SouthState are largely funded by core deposits. The creation of a strong and reliable funding base has been a priority of the bank for decades. While our cost of funds was up for the year, funding strength remains a key competitive advantage at SouthState.
As a result of high profitability and lower balance sheet growth, capital levels continued to build. Total risk-based capital climbed to 13.5% at year-end. While we were disappointed with the downward move in our stock price, it did provide an opportunity to put some of the excess capital to work. The company repurchased 1 million shares of common stock during 2018, and the board of directors has just approved a new 1 million share buyback plan for 2019. The board of directors has also declared a quarterly cash dividend of $0.38 per share, representing a $0.02 increase to shareholders of record as of February 15, 2019. I will now turn the call over to John Pollok for more detail on the financial performance for the quarter.
Thank you, Robert. It was nice to see our revenues increase by $1.7 million this quarter compared to the third quarter, as lower net interest income was more than offset by higher non-interest revenues. Looking back over 2018, total revenue was at its highest point in the first quarter, which was our first full quarter after the Park Sterling merger. Total revenues were lower in the second quarter of the year, mostly tied to lower mortgage banking income and lower acquired loan recoveries. Then, of course, the third quarter included the Durbin impact on our bank card revenue. Beginning with slide number five, you can see that our net interest margin decreased to 3.98%, a decline of six basis points linked quarter, with the total yield on interest-earning assets flat while the cost of interest-bearing liabilities increased by 10 basis points.
The yield on our interest-earning assets remaining flat is primarily the result of $2.7 million less purchase accounting loan accretion outweighing the nice improvement in our legacy portfolio yields. The acquired loan yield was down 13 basis points, and the legacy loan yield was up nine. The cost of interest-bearing liabilities increase is due to the increased funding pressure from the recent Fed rate hikes. Primarily impacting rates on transaction and money market accounts and certificates of deposit. Our total cost of funds increased seven basis points for the quarter to 57 basis points. Slide number six shows you some of the repricing characteristics of our loan portfolio. Our contractual loan yields benefited from meaningful increases in LIBOR and prime rates during the quarter. Slide number seven shows the higher yielding acquired book represented 25% of interest-earning assets in the fourth quarter, compared to 27% in the third.
Slide number eight shows that loan accretion declined from 8.7% of total interest income in the third quarter to 6.7% in the fourth quarter. You can also see the impact that loan accretion has on our loan yields at the bottom of the slide. We had our first recast this quarter on the Park Sterling loan portfolio, which resulted in a $10.2 million credit release. This quarter had only one month impact of this release, which resulted in approximately $500,000 in additional loan accretion. Turning to non-interest income on slide number 10, we had improvements in all categories with the exception of mortgage banking. Mortgage banking was lower on about $150,000 less secondary market income and about $175,000 less mortgage servicing rights related income.
With secondary market activity down from prior periods, we have made some recent staff reductions in the mortgage area in an effort to improve our overall profitability in future periods. Fees on deposit accounts were up $900,000 on about $600,000 seasonally higher debit card income and about $300,000 higher on service charges and fees. Wealth had another strong quarter with $7.6 million in income, up from $7.5 million linked quarter. Acquired loan recoveries were up $1.5 million, and other income was up $1.4 million, primarily from a successful acquired credit-impaired note sale. Our efficiency ratio, as shown on slide number 11, showed a nice improvement down to 59.4% from 62.3% in the third quarter, mostly due to the absence of merger costs this quarter.
Our adjusted efficiency ratio showed only a slight improvement linked quarter as lower net interest income was more than offset by higher non-interest income. The adjusted non-interest expense was only $900,000 higher. Slide number 12 shows linked quarter variances in non-interest expense. The main variances this quarter were $1.2 million in lower FDIC assessment expense and a $1.2 million in higher professional fees and marketing expense, and a $900,000 increase in OREO and loan-related expense. We continue to strive to limit non-interest expense growth while still investing in new strategic initiatives, as can be seen in the increase in professional fees this quarter. To this end, we are beginning the process of closing 13 branch locations, most of which are expected to take place in the latter half of the second quarter.
These reductions are anticipated to have cost saves of about $1.5 million for 2019 and about $2.5 million on an annual basis. Slide number 13 shows GAAP EPS of $4.86 for 2018 compared to $2.93 for 2017, a 66% improvement. Adjusted earnings per share for the quarter totaled $1.35, bringing 2018 adjusted EPS to $5.50. This represents a 13% increase over 2017. Tangible book value, as shown on slide number 14, shows a $0.93 increase in tangible book value to $36.30. During the quarter, we repurchased 900,000 shares of common stock at $66.76 per share, lowering capital by $60.1 million. This decline in capital was mostly offset by increases in net income less dividends and improvements in AOCI. AOCI improved $19.6 million as declining treasury yields improved the unrealized losses on the AFS securities.
The aforementioned 900,000 shares of common stock repurchased this quarter, coupled with the 100,000 shares repurchased in the third quarter, completed the existing 1 million share authorization we had in place. At year-end, our common shares outstanding totaled 35,829,549 shares. We have received approval for a new 1 million share authorization to aid in our capital planning efforts going forward. I will now turn the call over to Robert for some summary comments.
Thanks, John. Strong asset quality, high capital levels, attractive core funding, a great team, and the ability to do business in growing markets cause us to be excited about the future. We appreciate your interest in SouthState. This concludes our prepared remarks, and I would like to ask the operator to open the call for questions.
We will now open the line for questions. If you'd like to ask a question, please press star then one on your touch-tone phone. If you are using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star then two. At this time, we will pause momentarily to assemble our roster. Our first question comes from Jennifer Demba of SunTrust. Please go ahead.
Thank you. Good morning.
Morning.
Morning.
Two questions for John C. Pollok. First, what prompted you to initiate this branch closing effort? Two, can you talk about your net interest margin outlook for the year, assuming we get no rate hikes?
Okay, Jennifer. We'll start off on the branch closings. I think as we've entered this year, we talked about it at Investor Day, is we've spent a lot of time over the last few years integrating companies. I was really pleased to see in the fourth quarter, our GAAP earnings and our adjusted earnings are the same. I think that really shows it gives us time to focus more internally. I think our goal is to really limit expense growth in the company while still investing in the company. If you look at the branch piece of this, these 13 locations, that brings us down to about 155 branches. We started the year at 182. I think branch rationalization is just part of something we got to stay focused on. When we weren't in as much M&A mode, we did this before.
We're continuing to try to rationalize that branch structure. Those 13 offices that we're going to reduce, that's going to reduce FTEs by another 50, which is really nice to see from the expense side. Jennifer, I think just staying very focused there on the branches. If you switch over and you look at the digital side of our company, is digital account openings to include loans are about 10% of the volume now. You're seeing customer habits are really switched there. Now on the deposit side, about 20% of our deposits are really through the digital channel. You're just seeing more and more adoption there. That's some of the reasons why. The margin outlook, it's just kind of tricky, right? The yield curve's a little inverted in the middle. We still have a fair amount of acquired accretion coming through.
Obviously, the Park Sterling release is going to help drive that. Jennifer, I hope that we can begin to see some stability in the margin as we enter the second half of the year.
Great, thank you. Appreciate it.
Our next question comes from Tyler Stafford of Stephens Inc. Please go ahead.
Hey, good morning, and thanks for taking the question. Maybe John, just to start on the expense topic where Jennifer started. At the Investor Day, you laid out the 0%-3% expense growth target for the year. I'm just wondering if this branch closures will help you get towards the bottom end of that range, if they're incremental to that, or if you could actually see expenses decline year-over-year, given the branch closures.
It's a little early in the year to really tell, Tyler. I'm not sure.
Okay. I appreciate the new disclosures around the accretion and the recast. Just from a simple high-level perspective, would you expect to grow net interest income year-over-year in 2019?
I would think as we enter the latter half of the year, depending on growth, I would think we should be able to do that.
Okay. Just lastly from me, was there any seasonality on the deposit side towards the end of the year that you'd expect to flow back on the balance sheet to start 2019?
No.
Okay. Those deposit balance declines weren't seasonal?
No, it doesn't appear. We've got bigger deposits today. We've got some customers that have larger deposits. We're still doing a really good job opening checking accounts. It's kind of our first full year with Park, again, seasonality is still a little harder to judge. I think now as we've kind of remixed the balance sheet, kind of getting into the seasonality issue, maybe it'll make more sense this year.
Okay. That's it for me. Thanks.
Our next question comes from Stephen Scouten of Sandler O'Neill. Please go ahead.
Hey, everyone. Good morning.
Morning.
I'm curious as to what you guys are seeing in your markets with your customers. Obviously, it looked like you still had pretty strong organic production and growth ex the kind of acquired runoff. Obviously, the markets were telling us something in 4Q I don't think we're seeing in most bank earnings, but I'm just kind of curious what you're seeing and hearing from your borrowers and customers and how you think the overall economy is doing in your geography.
Stephen, this is Robert. I'll start. Overall, our local economy is still pretty healthy and pretty steady. In Q4, I spent a lot of time with a lot of businesses in our markets and got a really, I think, pretty good insight into how they were thinking and feeling. It was very interesting. It was diverse. If it was a company that had an international component, you could see a lot of uncertainty and kind of pulling the reins back in to try to figure out where they were headed. If it was a purely domestic company, you just didn't see that same level of uncertainty. Kind of some mixed signals depending on the type of company that is operating in our markets. The tariff impact
was not a huge deal to most companies, you clearly saw it across the board in construction costs. You saw the impact there. Across the board, what we do hear is wage pressure. Both skilled, entry-level type jobs, we heard that pretty consistently. I'd say a little bit more of a headwind, some spottiness of uncertainty, mixed signals, that will create probably overall a little bit of slowdown. With that said, in the second half of 2018, we saw our pipeline slow down a little bit, not a lot. December was a really good month for us. We ended the year strong. Our pipeline, as we moved into this year, the pipeline popped up pretty good. asked about seasonality on deposits.
We typically do have a little bit of seasonality on the loan side, the first quarter's typically not our strongest. Overall, it looks like loan demand continues to be pretty steady. I didn't touch on the residential side, residential is pretty much off across the board. We're not off as much as many of our competitors are off 15%-20%. I think we're down low single digits. We're still having fairly good production there, although softer than it has been historically. We're seeing residential softening in many of our markets.
Okay, great. That's really helpful color. Thank you, Robert. Thinking about the core NIM just for a second, ex the accretion. I know that accretion's going to be somewhat lumpy and hard to predict, but it looked like the core NIM was better this quarter by maybe three basis points or so. A nice move there. Is that something on a core basis, ex accretion, we could continue to see some help? Or how can we kind of think about that maybe in one Q19 with the benefit of December hike and then throughout the rest of the year if we don't get any additional hikes?
Stephen, this is John. I'll start. I think the thing that we're excited about is we're really starting to see the new loan yields creep up. We're now getting loan yields almost up to the 470 range. We are beginning to see that. I think on the funding side, it's still challenging. I think that's still a little bit of an unknown there. Over time, that's all going to settle out. I think as we've said, we're going to continue to protect our deposit base. Over time, that will begin to settle in. We are excited to finally see some of the loan yields begin to really move up.
Okay, great. That's very helpful. Then maybe just lastly from me, on the share repurchase from here, it looks like the stock's still trading a little bit below where you guys executed the repurchase in 4Q. Would that be fair to assume if the shares stay around this level, you all would remain aggressive with the incremental buyback authorization? Is there a capital threshold you want to stay above? How can we kind of think about the pace of that buyback from here?
Stephen, I'll start. I think we're going to continue to be active with where we are today. I think one of the things that we've tried to impress on everybody in our company is the optionality that we have. Clearly, we're generating a lot of capital. Some view accretion as not real earnings, but it is real earnings. It is real capital. In fact, when you look at accretion, we have to work pretty hard on those loans to rehabilitate a lot of those. We continue to see that on the capital side. Our growth rate, as we mentioned, was about 4% for the fourth quarter. We got the optionality to do that. We're not overly concentrated in CRE to risk-based capital.
I think kind of at the end of the day, we're going to continue at these levels to kind of be active on the share repurchase.
Great. Okay. Thank you guys very much for all the color. Appreciate it.
Our next question comes from Catherine Mealor of KBW. Please go ahead.
Thanks. Good morning.
Morning, Catherine.
I just have a couple of small modeling questions. The first is back on accretable yield. The acquired noncredit impaired accretion was about $3 million lower this quarter at $3.8 million. John, how do we think about what drove that decline? Is this a better kind of base level to think about for next year for the acquired noncredit impaired book, outside of just kind of accelerated recoveries that I know are hard to predict?
A little hard to predict. A couple of things there on the quarter change. One, in the third quarter, we had a fairly large loan payout that generated a little bit of that. Then we're just seeing the remixing down. If you kind of look at our acquired loan runoff, it's slowed. Of course, when that slows, that's just less of that acquired noncredit impaired accretion coming in. We did see some slowness there. At the end of the day, Catherine, it's going to continue to be a little bit lumpy. It will trend down over time, but clearly, the slowing of the runoff and not having some kind of one-time event, we didn't have that this quarter.
Got it. Then the Park Sterling recast. Can you clarify, because I think you said that there was about $500,000 in additional accretion from that this quarter, but that was only of one month. For a full quarter of that, we should get another $1 million bump from that next quarter. Am I thinking about that right?
That sounds reasonable.
Okay. That is in the acquired credit impaired or non-credit impaired bucket?
Excuse me, repeat the question one more time.
Is that in the acquired credit impaired bucket or the non-credit impaired bucket?
That's in the acquired credit impaired bucket.
Okay, great. Off of that, you said at the end of the quarter you added $150 million of new borrowings. What was the average rate of those borrowings?
About 264.
Okay. Last little nitty-bitty question was, you mentioned that there were higher other fees. How much of that was in BOLI versus capital markets?
How much of that? I didn't hear the first part of your question.
Sorry. You mentioned in the press release that the increase in other fees were from higher BOLI and capital market fees. Is there any way to specify how much was BOLI versus capital markets?
I don't think that's right. Our other fees were up because we sold a note out of the acquired loan book, and that was really the driver. That's what drove it up. Unfortunately, with the way the accounting works is some would say that should have come back through the NIM, but as we looked at selling an acquired loan note, that was really the driver in that other category.
Got it. Okay. All right. That's all I got. Thank you so much.
Our next question comes from Nancy Bush of NAB Research. Please go ahead.
Good morning, gentlemen.
Morning.
I've got kind of a forward-looking question for you. It seems like in the last few months I've seen more mention of fintech, in both its positive and negative aspects for the banking industry than I've seen in quite a long time. We seem to be getting to some sort of tipping point here about the subject of fintech. You've mentioned your digital account openings, et cetera. How much time do you have to devote to fintech, thinking about fintech as a competitor or how it can be a positive for you? Is there some need now for heightened investment for technology?
Well, Nancy, this is Robert. I'll start. We laid out our digital roadmap probably 24 to 36 months ago.
Right.
That included what we want to do with online account opening, online lending, what we want to do in the treasury management space. We're probably halfway through that. We've got other things that we did in terms of outsourcing some things that really aren't core to our business or core to our customers and getting out of some things that we had traditionally been in. I'd say we really kind of got more laser focused just on our digital roadmap. It was laid out years ago. We kind of knew what the cost was going to be to implement and execute that. Don't really see it spiking from here. As you heard from John on the expense side, our goal is to find ways to operate more efficiently internally to help pay for the investments we have to make.
Just like treasury, we've made huge investment in treasury in both talent and technology, and now our treasury deposits are almost 25% of our total deposits.
Right.
I think one of the unique things about our company is 81% of our dollars of deposits are transaction accounts. A lot of volume. I think we just rolled out the online lending platform and online account opening platform in the last 18 months. 10% there is a start, but there's a lot more progress that we can make there. The last point I'd make is really just our interaction digitally with our customer continues to grow meaningfully.
Right.
Both through marketing digital channels, which are fairly price attractive way to market our company and to connect. Now we have a digital relationship with about two-thirds of our customers. It is ongoing and growing but I think we can absorb the cost increases with making the business more efficient.
Right. You don't see here some kind of new point of disruption going on. You see yourself as being able to stick with the plan that you've had for a while, and there are not new applications and things popping up that you're going to suddenly find a need to invest in.
I think the technology cost seems manageable. I think it's about penetration and how do you market it, how do you communicate with your customer, how do you interact with those customers. A large number of our new accounts, the largest component of our new customer base are millennials. I think there are a lot of things that we're doing on that front that aren't that expensive. I think it's more of a mindset shift in getting some of these foundational pieces in place that we needed and time to focus on it.
Okay. All right. Thank you.
Again, if you have a question, please press star then one. Our next question comes from Christopher Marinac of FIG Partners. Please go ahead.
Thanks. Good morning. I wanted to ask about new hires this year. Will they be centered primarily in Charlotte and Richmond, or perhaps just talk about the new hires and the footprint.
I'll start. Then John can maybe talk about the kind of maybe the net FTEs changes overall for the company for the year, but that's kind of the net number. The specifics is we've invested a lot in Richmond. We've done a great job of recruiting talent there on the commercial side, as well as the Charlotte market. Those teams, we've added talent in both those places. We've done it in other parts of the footprint, but I would say Raleigh, Richmond, Charlotte have been the primary areas of focus for the company. That's the commercial bank. Same thing really in wealth is we didn't have much presence in those markets, and the banks that we acquired didn't have a strong wealth presence. We're certainly investing in the wealth businesses and having really good success there as well.
Really across the board, those would be the three primary markets. The other is we've been able to hire back to digital, online, the way we think about our company, the way we deliver. We've been able to add some great talent in a number of technical areas inside the company, be it risk management, be it mortgage lending, just to help us change how we think about how we deliver and operate our company. I'd say Richmond, Raleigh, Charlotte, and then some more technical expertise have been the two primary areas.
To follow on what Robert said, we're down 117 FTEs for the year. We were down 38 linked quarter. Then we're going to be down another 50 just from the branch closing. I think it's just continued focus on trying to be more efficient and then trying to reinvest in on the sales side. Clearly, it will continue to be a focus.
Great. That's helpful, guys. John, just the last question on the reclass of Park Sterling. Is that sort of on a three-year timetable to kind of collect the most of that? Is that a realistic timeframe?
I think it is. I think one of the things, I mentioned it earlier about accretion's not free. Some of these loans we have rehabilitated, some we have moved out of the bank. Clearly, as you do that, sometimes you get an extension on it. Right, Chris? The accretion could go out over a longer period of time. I think a three-year time horizon right now makes a lot of sense. As the balances get a lot smaller, that will continue to really drive out the weighted average life.
Sounds good. Thanks very much, guys.
Our next question comes from Blair Brantley of Brean Capital. Please go ahead.
Morning, everyone.
Morning, Blair.
I just have a follow-up on the CRE commentary. Just given some of the flexibility you have, just want a better view of how you're looking at those different segments and by market too. As to what the opportunities are and just kind of pricing and structure and things like that.
Blair, I'll start and John can chime in. If you look at our overall commercial production, the last year it was up pretty nicely, but our CRE production was really flat. We've seen a lot of churn in that portfolio. There's been a lot of somewhat irrational competition. We had a transaction the other day that was priced in, I think it was the Charlotte market, and it was 15 years fixed rate and 15 years interest only. We pick our spots. Most of the relationships that we have on the CRE side are very robust and long-term. It's not just a transaction here or there. Overall, I think that that is not a high-growth area for the company. I think it'll be steady, consistent production, but we're at a little over 200% CRE to risk-based capital.
We have a lot of firepower, over $1 billion in firepower. You're not going to see us move that number up to 300%. That won't happen either. We're being selectively opportunistic. There's still pretty good demand in most of our markets for CRE. Our pipeline there remains healthy. It's not negative, but it's not huge growth either.
Blair, what I would add is the runoff's slowing, right? I think that's what we're beginning to see is that should just kind of help with those balances some. We ought to have less runoff as we get through the year.
Okay. Thanks. Then in terms of just average earning asset balances, would you expect that growth to kind of mirror loan growth, or any update there?
No, I think that's a fair statement. Yeah, it would mirror the loan growth.
Okay, great. Thank you.
There are no further questions. I will now turn the call back over to John Pollok.
One thing I wanted to go back to on Catherine's question. Catherine, on the other non-interest income, that BOLI and Capital Markets increase, I was thinking you were talking linked quarter. That's year-over-year. The main reason that is up year-over-year is if you remember in the fourth quarter of last year, we only had one month of Park Sterling. Of course, this year we've got them in for a full quarter. Thanks everyone for your time today. We will be participating in the KBW Financial Services Conference in Florida, beginning on February the 13th. We look forward to reporting to you again soon.
The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.