First Citizens BancShares - Q4 2023

Transcript

Operator (participant)

Ladies and gentlemen, thank you for standing by, and welcome to the First Citizens BancShares Fourth Quarter 2023 Earnings Conference Call. At this time, all participants are in listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during this session, you need to press star one on your telephone keypad. If you require operator assistance during the program, please press Star, then zero. As a reminder, today's conference is being recorded. I would now like to introduce the host of this conference call, Miss Deanna Hart, Senior Vice President of Investor Relations. You may begin.

Deanna Hart (SVP of Investor Relations)

Good morning, everyone. Welcome to our fourth quarter earnings call. Our Chairman and Chief Executive Officer, Frank Holding, and Chief Financial Officer, Craig Nix, will provide fourth quarter business and financial updates today. During the call, we will reference our investor presentation, which you can find on our website. Our comments will include forward-looking statements, which are subject to risks and uncertainties that may cause our results to differ materially from expectations. We assume no obligation to update such statements. These risks are outlined for you on page three. We will also reference non-GAAP financial measures. Reconciliations of these measures against the most directly comparable GAAP measures can be found in section five of the presentation. Finally, First Citizens is not responsible for and does not edit nor guarantee the accuracy of earnings transcripts provided by third parties. I will now turn it over to Frank.

Frank B. Holding, Jr. (Chairman and CEO)

Thank you, Deanna, and good morning, everyone. I'm going to focus my comments today on our fourth quarter accomplishments and our 2024 strategic priorities before turning it over to Craig to cover our fourth quarter financial results and outlook for 2024. Let's start on page 5. The fourth quarter capped off another exciting and successful year at First Citizens. We kicked off the year, one year into our successful merger with CIT and rang out the year combined with SVB, all as we celebrated our 125th year anniversary. I'm really proud of what we accomplished in 2023 and believe we have tremendous opportunity ahead of us.

There is an undeniable sense of momentum at First Citizens, and our ambition is to serve our clients in ways never imagined 125 years ago. We're well positioned for the future, thanks to continued focus on our clients and customers and our solid financial results. We delivered another quarter of solid financial results, driven by a strong net interest margin and adjusted efficiency ratio of 48%. We're pleased that both our general and commercial bank segments grew loans by double-digit percentage points in 2023. Due to strong deposit growth during the year, we improved our liquidity position significantly and ended the year with a strong capital position marked by a CET1 ratio of 13.36%.

We recently announced two major additions to our team, which will help us to continue to successfully navigate the ever-changing landscape for large financial institutions. First, David Leitch was appointed to the board of directors in January. David is a distinguished leader, executive, and attorney, and he brings extensive experience and valuable insight to our board. He retired from Bank of America in 2022, where he served as Vice Chair from 2021 to 2022, and its Global General Counsel from 2016 to 2021. And we're excited to have David join the board. Second, we announced that Craig Smith will join our executive leadership team as the bank's Chief Information and Operations Officer.

Craig joins our team from TD Bank Financial Group in Toronto, Canada, where he served as Head of Transformation and Corporate Operations. In this leadership role, he set the vision and built key capabilities to drive end-to-end transformational change. He was also responsible for managing corporate projects and technology platforms. In the CIOO role at First Citizens, he will be responsible for the strategic enablement of technology, operations, cyber, and data functions across the enterprise. Craig's extensive background and depth of experience will make him well suited to take on these important responsibilities, and we're excited to have him on board. Moving to page six. We remain intently focused on our core strategies, and I'll highlight a few of them for 2024. First, we remain focused on our clients and customers.

Our combinations with CIT and SVB introduced us to new strategic markets and allow us to deliver expanded products and solutions across our diversified lines of business. We continue to support SVB's innovation economy clients and are focused on capturing synergies with the commercial businesses we acquired from CIT. In the general bank, we have enhanced our deposit campaigns to continue to grow quality core deposits. As we noted last quarter, we continue to expand our wealth business across our geographic footprint, our, and our expanding advisory and self-service options for our clients in that space. Developing our associates and adding talent to support growth remain important priorities. Our integration efforts are centered on ensuring that we retain our culture and which emphasizes a relationship-based approach to banking, a client- and customer-centric service delivery model, a long-term focus, and strong risk management.

Operational efficiency is very important to us. In addition to disciplined expense management, we are managing our balance sheet to optimize our liquidity and capital positions to support continued profitable growth. Core deposit growth will be a major priority as we continue to increase deposits as a percentage of our total funding mix. We also continue to make regulatory readiness a top strategic priority. We have made meaningful progress on our efforts thus far, but acknowledge we need to continue to refine and mature our processes to support the change in company's, in the company's size and complexity. We will be intently focused on these efforts in 2024. Now let's look at page seven. We continue to make good progress on SVB's integration. Our efforts there have been extremely important, helping us retain clients, stabilize deposit balances, and develop strategic priorities for the combined organization.

As we discussed on the last call, we developed an integration roadmap, and we expect the majority of those efforts to be completed in 2024. Our goal remains to support the acquired lines of business, maintain their unique capabilities, all while improving efficiency and risk management, positioning us for future growth. We acknowledge the headwinds in the innovation economy as well as the increased competition in this space. However, we remain encouraged by the strength and value the SVB franchise brings to its client base and its unwavering commitment to providing relationship-focused service that is unmatched in the innovation ecosystem. To conclude, I am very pleased with our performance in 2023 and excited about growth opportunities as we enter 2024.

Despite industry adversity in 2023, we were able to protect and grow customer relationships, stabilize deposits at SVB, grow core deposits and loans in our general and commercial bank segments, and build upon our strong capital and liquidity positions. I'd like to thank all of our associates for making 2023 a successful year, and positioning the bank for a successful future. With that, I'll turn it over to Craig Nix. Craig?

Craig Nix (CFO)

Thank you, Frank, and thank all of you for joining us today. I'm going to anchor my comments regarding our fourth quarter financial results to the takeaways outlined on page 9. Pages 10 through 29 provide more detail supporting the results for your reference. Our return metrics remain solid and in line with our expectations. ROE and ROA, adjusted for notable items, were 13.53% and 1.28% respectively. Compared to the third quarter, these metrics were impacted by an expected 3.9% sequential decline in net interest income, driven by a reduction in accretion income and higher deposit costs. These impacts were partially offset by higher loan and investment portfolio yields, which benefited from maturity and replacement of lower-yielding assets during the quarter.

These higher yields, offset by higher deposit costs, drove net interest income ex accretion to be essentially flat with the sequential quarter. NIM contracted by 21 basis points during the quarter to 3.86%, driven primarily by the same factors affecting the decline in net interest income I just discussed. Ex accretion, NIM declined by 5 basis points to 3.46%. Adjusted non-interest income was down modestly by 3% sequentially. A majority of the decrease related to a decline in the fair value of customer derivative positions as a result of lower interest rates. Additionally, as we previously guided, our rail business experienced a decline in net rental income due to higher maintenance expenses.

As a reminder, given strong utilization rates and positive repricing trends, we made the strategic decision to pull forward regulatory requalification programs in order to increase the number of available cars for leasing in 2024. These updates position us well to continue to provide our customers with the equipment they need. While we expect some normalization to historically high utilization levels in 2024, we believe that our well-diversified fleet positions us well for the future. A bright spot in the quarter was an increase in capital market fees, as our capital markets business had its highest fee year on record, as we were able to take advantage of market dislocation as many banks pulled back. Adjusted non-interest expense was largely in line with expectations, increasing sequentially by less than 1%.

We experienced expense growth during the quarter in consulting and project costs related to strategic investments we had delayed earlier in the year. As we noted on the third quarter call, consulting and project costs were lower in the second and third quarters as we assessed and reprioritized areas of focus heading into 2024. In addition, fourth quarter expenses reflected our expanded CRA commitment as part of our integration efforts to assist communities in Northern California and Eastern Massachusetts. These increases were almost completely offset by lower FDIC insurance and personnel expenses. We remain very cognizant of the importance of expense discipline as we head into 2024, given headwinds to net interest income facing us and many in the industry.

Credit continues to normalize and trace with our expectations for the quarter, with net charge-offs coming in at the lower end of our guidance range of 50-60 basis points. Net charge-offs were $177 million during the quarter, representing a ratio of 0.53% of average loans, basically flat compared to the third quarter. Losses were largely in the same portfolios where we experienced charge-offs in previous quarters. Within the commercial bank, net charge-offs were concentrated in the general office and small ticket equipment leasing portfolios. We also experienced an idiosyncratic loss in the energy portfolio this quarter that we believe is not indicative of broader concerns in the portfolio.

While we continue to see stress in our general office portfolio in the commercial bank due to continued inflationary pressure, elevated interest rates, and market dislocation, we have limited exposure, which totaled $1.2 billion, or roughly 1% of loans at the end of the fourth quarter. As a reminder, this portfolio is concentrated in Class B, repositioned bridge loans, and is where we have seen deterioration in past dues, criticized assets, and charge-offs. General Office CRE continues to be carefully monitored, and we are carrying an ACL on these loans of 9.37%, compared to 4.77% on the overall general office portfolio. Net charge-off in the SVB segment remained elevated due to continued stress in the investor-dependent portfolios, but did decline sequentially by $35 million.

At quarter end, this portfolio totaled $4.3 billion, or approximately 3% of total loans, with the highest risk category, early-stage companies totaling $1.4 billion, or just over 1% of total loans. The allowance for credit losses increased sequentially by five basis points to 1.31% due to some adverse credit migration in our commercial portfolio and higher specific reserves on loans individually reviewed. Under the current macroeconomic backdrop, we continually look for indicators of portfolio stress by reviewing delinquency trends and grading migration by industry and/or geography to identify areas of concern. While credit quality remains within our risk appetite, we anticipate elevated net charge-offs in the innovation, general office, and equipment finance portfolios this year.

We have taken proactive steps to help limit losses, and we feel that we are properly balancing our growth and underwriting strategies, emphasizing opportunities that build upon our expertise and provide an appropriate risk-adjusted return. Now moving to the balance sheet. Loans were up $100 million over the third quarter. The general and commercial bank segments grew loans by $1.3 billion and $716 million, respectively, while the SVB segment experienced a decline of just under $2 billion. In the general bank, growth was concentrated in small business and commercial loans in our branch network as we continue to grow our customer base and deepen relationships. We are focused on executing our strategy of growing our customer base and supporting existing clients where we have a relationship and a proven history.

We believe this relationship banking approach will continue to serve us well. In the commercial bank, growth was driven by strong production in our industry verticals and middle market banking. Within the industry verticals, growth was concentrated in TMT, Healthcare, and Energy. Growth in our TMT vertical continues to be driven by strong demand for new data centers. Our Energy vertical is benefiting from the power infrastructure and renewable Energy markets. As for middle market, the team continued its expansion strategy in 2023, adding bankers in Boston, New York, Santa Monica, Atlanta, and Dallas, contributing to increased loan production during the year. The reduction in SVB segment loans was driven primarily by a decline in Global Fund Banking, but to a smaller extent, we saw a reduction in our Technology and Healthcare banking business.

Despite a slowdown in private equity and venture capital markets, we are encouraged by a strengthening loan pipeline in Global Fund Banking, which expanded by approximately 40% quarter-over-quarter, as the team continues to support our existing clients as well as add new relationships. Global Fund Banking closed on $4.8 billion in new deals in the fourth quarter, a 129% increase over the third quarter. While utilization remains depressed due to the macroeconomic environment, we have the largest fund finance team in the market, and total approved exposure on the loan book has stabilized and has started to ramp up as the team continues to execute. We remain the primary banking partner for the vast majority of our GFB clients, which positions us well to ramp up both loans and deposits quickly when the macroeconomic environment improves.

The decline in Technology and Healthcare banking was driven by paydowns outpacing new fundings as the private market investment landscape continues to face headwinds, resulting in a difficult exit environment, lower fundraising numbers, and fewer deals. Deposits were down a modest 0.3% sequentially, driven by a $1.5 billion decline in the SVB segment due to continued client cash burn and muted fundraising activity. Importantly, though, investment inflows increased from the third quarter, while outflows from burn declined, which helped us beat our third quarter forecast of an approximate $5 billion decline. The branch network declined by $492 million due to expected seasonal outflows. These declines were partially offset by a $2 billion increase in Direct Bank deposits.

While the Direct Bank channel is higher cost and now accounts for 26% of our deposit base, it is an additional lever we continue to use to remain resilient through a turbulent environment and is a strong source of insured consumer deposits supporting our liquidity base. It also enabled us to pay down higher cost FHLB debt earlier in the year, and most recently, redeemed some of our smaller subordinated debt issuances, given excess capital and liquidity positions. Moving to capital, we continued to maintain a position of strength as our CET1 ratio increased by 11 basis points sequentially, ending the quarter at 13.36%, which remains well above our internal target range of 9%-10%.

The impact from our loss share agreement continues to provide for higher capital levels and contributed approximately 120 basis points to our CET1 ratio this quarter, down from 140 basis points last quarter. Even without this benefit to our ratios, we remain well above our target capital ranges and anticipate operating at an elevated level in the near term. We are currently in our annual capital planning process, which includes reassessment of our goals and targets with consideration of both SVB and future regulatory changes. This process includes a full stress test, including the acquired SVB portfolios. Additionally, we continue to monitor the proposed Basel III rules but remain well positioned for any changes, including the inclusion of AOCI marks.

Our CET1 ratio at the end of the fourth quarter is estimated at 11.8% when these AOCI marks are included and the impact from the loss share agreement is removed. We have confidence in the rate that we are accreting capital and our absolute capital levels relative to our internal targets, our capacity to handle balance sheet growth, our SVB integration efforts, and our positioning with respect to the Basel III endgame. Therefore, we do anticipate that our 2024 capital plan will include a share repurchase plan, which, once approved, will commence in the second half of this year. We also anticipate beginning a programmatic issuance of long-term debt in 2024 to ensure compliance with the proposed long-term debt requirements by the expected phase-in deadlines.

We expect our binding constraint to be risk-weighted assets to long-term debt and estimate our long-term debt shortfall to be approximately $8 billion-$11 billion. While this strategy is partly dictated by regulatory requirements, we anticipate these funding actions, along with our deposit growth strategies, will support the replacement of some portion of the FDIC Purchase Money Note, which matures in March 2028. I will close today on page 31 by discussing our first quarter and full year outlook for 2024. We anticipate that loans will remain flat to modestly increase in the first quarter, driven by low single-digit percentage commercial banking segment due to continued strong performance in our industry verticals. We anticipate SVB loan balances to remain flat in the mid-$50 billion range.

As mentioned earlier, the Global Fund Banking business is benefiting from a strong pipeline due to being back in the market for clients during the second half of 2023, following the pause prior and immediately after the acquisition. This growth, however, will continue to be pressured by headwinds in the private equity and venture capital markets. We also anticipate a modest decline in the Technology and Healthcare banking business as lower levels of new fundings and line draws, coupled with increased loan payoffs, result in loan portfolio contraction. Looking at the full year, we expect loans to end in the $139 billion-$143 billion range or mid-single-digit % growth. We foresee increased volumes in our Global Fund Banking business as a result of increased outreach beginning in the second quarter of 2023 and our increased pipeline.

Additionally, we continue to see strong growth in our general and commercial bank segments. However, we do expect moderation to mid-single-digit % growth in these segments in 2023.... Turning to deposits, we expect a low single-digit percentage point increase in the first quarter, primarily due to growth in the branch network, driven by leveraging new products and initiatives to deepen client relationships that emphasize deposit growth, as well as seasonal growth prior to April tax outflows. We are also focused on increasing our customer base by building deposits through proactive sales, associate outreach, centralized marketing campaigns, and increased community connectivity.

For the full year, we anticipate low- to mid-single-digit % growth, primarily related to growth in the general bank previously discussed, and a mid-single-digit % growth in SVB deposits, as market activity and the impacts of customer outreach begin to help produce deposit growth in the back half of 2024. With respect to SVB deposits, we expect the venture capital environment to remain challenging, particularly in the first half of 2024. Since April, we've seen SVB deposits remain largely stable, despite continued cash burn exceeding funds sourced from fundraising activities. Encouragingly, we also added over 60 new primary operating business clients between April and November of 2023. We believe our emphasis on client engagement, coupled with better fundraising in the back half of 2024, will help propel modest growth in this segment. We'll continue to raise deposits in our Direct Bank.

However, given the excess liquidity on our balance sheet, this pace will be moderated from the growth we experienced in 2023, with a growth rate of less than 10% anticipated in the channel. This obviously could change if we have unexpected deposit outflows elsewhere. Our interest rate forecast follows the implied forward curve, which includes 6 rate cuts in 2024, with the effective Fed Funds Rate declining from 5.5% to 4% by the end of the year. The implied curve currently diverges from the Fed dot plot expectation, which includes 3 rate cuts, with the effective Fed Funds Rate declining to 4.75%. It is our belief that we will see closer to 3 or 4 rate cuts, given the continued strength in the labor market and the fact that inflation remains stubbornly above the Fed's target rate.

Therefore, for our net interest income guidance, we provide a range with the top end assuming 3 rate cuts and the low end assuming 6 rate cuts. For the first quarter, we expect net interest income to be down in mid-single-digit percentage points range, with and without accretion. The decline in headline net interest income will be driven by the impact of lower accretion and higher deposit costs, only partially offset by higher investment yields. For the full year, we expect net interest income in the range of $6.9 billion-$7.1 billion, with the low end assuming 6 rate cuts and the high end assuming 3 rate cuts.

In either case, we project accretion income close to $485 million for the year, which is a decline from $725 million in the last three quarters of 2023, as loan discounts on some of the shorter portfolios have been fully recognized. Isolating net interest income for the second through fourth quarter period to take into effect the timing of the SVB merger. With 6 rate cuts, we expect headline net interest income to be low double-digit percentage points and ex-accretion by high single-digit percentage points. With 3 rate cuts, we expect headline to be down high single-digit percentage points and ex-accretion down low to mid-single-digit percentage points. We anticipate our full cycle beta to be approximately 44%, which is materially in line with our previous estimate of 43%. Moving on to adjusted non-interest income.

We expect the first quarter to be relatively in line with the fourth quarter in the $440 million-$460 million range. Looking at the full year and isolating for only the second through fourth quarters, we anticipate being flat as continued growth in net operating lease, rental, wealth management, and mortgage income are offset by a decline in client investment fees due to the anticipated lower interest rate environment. We expect full year non-interest income to be in the range of $1.8 billion-$1.9 billion. As Frank mentioned in his comments, we are excited for the continued build-out of and momentum in our wealth platform, and we look to fully convert the legacy Silicon private businesses in 2024.

Moving to expenses, we expect a modest increase from the fourth quarter due to seasonal increases in personnel expense from higher benefits and incentives, and software costs due to continued build-out of product capabilities that will help us be the premier partner in the innovation economy in areas such as cash management, FX, and payments, as well as continued investment in our wealth capabilities that will help us sell deeper into our new national reach. Furthermore, we will continue the modernization of our platforms in consumer, equipment finance, and factoring to ensure we are well equipped to scale in the future. We also have a few regulatory projects we will be completing this year related to ISO payments and Dodd-Frank. In addition, as Frank alluded to earlier, we are focused on building out our capabilities in the large bank and regulatory spaces, which will require some focused builds.

As of this time, all of this will be partially offset by continued acquisition synergies. Looking at the full year and isolating for the second through fourth quarters, we anticipate non-interest expense to be flat to up low single digits percentage point, which equates to an adjusted non-interest expense target for the year of between $4.6 billion and $4.7 billion. While we expect to achieve the lower 25% band of our cost save goal by the end of 2024, these savings will be offset by continued capability build out for large bank expectations, as well as costs related to the strategic priorities I just mentioned. Our adjusted efficiency ratio is expected to be in the low 50% range in 2024, up slightly from 49% for full year 2023.

On credit, we anticipate net charge-offs to remain in the 50-60 basis points range in the first quarter, given continued pressure in the general office real estate, small ticket equipment leasing, and innovation portfolios. For the year, we expect net charge-offs in the 45-55 basis points range, as we expect some of the pressure in the investor-dependent portfolio to soften in the back half of the year, as well as some of the changes we made in underwriting small ticket leases in 2022 begin to favorably impact the net charge-off ratio. For both the first quarter and full year of 2024, we expect our tax rate to be in the 27%-28% range, which is exclusive of any discrete items.

In closing, we have accomplished a lot in 2023, including the transformational acquisition of SVB, which brought significant scale to our business and new product offerings to our geographically diverse client base. While economic and geopolitical uncertainties remain, we believe the strength of our diversified businesses, our strong capital and liquidity positions, and our hardworking and dedicated associates will help us continue to take care of our customers and clients and deliver meaningful returns to our shareholders. As we've proven during previous economic downturns, our business model is resilient and recession ready, in large part due to our disciplined through the cycle credit underwriting standards and robust risk management infrastructure. In 2024, we will remain focused on allocating capital where we can drive deeper relationship business with the goal of continuing to deliver top-tier financial returns.

I will now turn it over to the operator for instructions for the question and answer portion of the call.

Operator (participant)

Thank you. Ladies and gentlemen, if you have a question or a comment at this time, please press star and then the one key on your touchtone telephone. As a courtesy to others on the call, we ask that you limit yourself to one question and one follow-up, and then return to the call queue if you have any additional questions. If your question has been answered and you wish to remove yourself from the queue, please press star followed by two. We'll pause here for one moment as we compile the Q&A roster. The first question today comes from the line of Steven Alexopoulos from J.P. Morgan. Please go ahead. Your line is now open.

Steven Alexopoulos (Managing Director, Senior Equity Research Analyst, U.S. Mid- and Small-Cap Banks)

Hey, good morning, everyone.

Craig Nix (CFO)

Good morning.

Steven Alexopoulos (Managing Director, Senior Equity Research Analyst, U.S. Mid- and Small-Cap Banks)

Morning. I want to start on asset sensitivity and the net interest income guidance. So part of what makes you guys so asset sensitive, right, is the outsized cash position. How do you guys see cash balances trending through 2024? You know, what's in the guidance? And if the Fed does start cutting rates, is that the time to start putting more cash to work, or you're still more focused on SVB deposits and other issues?

Craig Nix (CFO)

Well, well, first of all, right now, cash is around 17% of earning assets, and ideally, over time, we'd like to see that migrate to 10%-12%, replaced with either loans or investments. So, at that, but at this point in time, where we are in the cycle, we believe we have time to get that down, especially given the Purchase Money Note. I'll let Tom talk a little bit about the rate sensitivity and the cash balance and what we may be looking for doing to position ourselves going forward.

Tom Eklund (Treasurer)

Yeah, Steve, during the second half of last year, we put about $8 billion worth of migrated from cash to securities, and we expect that to continue into 2024. Really, what we're doing is just taking a methodical approach, not trying to buy the curve on any one day, but sort of do it over time, and we'll continue to do that. We also put on about $1 billion worth of fair value hedges, where we moved some of our fixed rate borrowings to floating rates, and you can expect to see that sort of continue to mitigate that asset sensitivity over time.

Steven Alexopoulos (Managing Director, Senior Equity Research Analyst, U.S. Mid- and Small-Cap Banks)

Okay, got it. But generally expecting cash balances to stay fairly elevated in terms of what's in the NII guidance, right? That's what you're saying?

Craig Nix (CFO)

Yeah, I think that's true, although I think the percentage might drop some, but not into that 12-- 10%-12% band-

Steven Alexopoulos (Managing Director, Senior Equity Research Analyst, U.S. Mid- and Small-Cap Banks)

Yep.

Craig Nix (CFO)

at the end of 2024.

Steven Alexopoulos (Managing Director, Senior Equity Research Analyst, U.S. Mid- and Small-Cap Banks)

Got it. Okay, and then, then my follow-up question, I don't know if Marc's on the line, but in terms of the SVB business, last quarter, you guys talked about some green shoots, positive signs, right, new account openings. Curious, what do you see in the most recent quarter in terms of clients or prospects coming back to the bank? And what's, what's your assessment of the state of the market right now? I saw early-stage losses up a bit, capital calls down, pipeline up. Just what's, like, the view on the current ecosystem at the moment? Thanks.

Craig Nix (CFO)

Hey, Marc, you want to take that one?

Marc Cadieux (President, SVB Commercial)

Sure. Uh-

Yep, happy to jump in there. Good morning, Steve. It's Marc Cadieux. And, the fourth quarter was really, in this regard, a lot like the third quarter. Continued momentum with,

... new clients, new lending, winning back business that had departed to other financial institutions, et cetera. And so very encouraged by that as we look ahead to 2024. At the same time, as I think, Craig already mentioned, our target markets, the innovation economy, continues to go through a, the reset, its own downturn. And as mentioned, we expect that's going to continue in 2024. And so, you know, our intention is to keep doing what we were doing in 2023 and, and, you know, hoping that, 2025 and ahead is, better conditions. But again, feel good about the momentum we've got and going into 2024, notwithstanding that, we still have market headwinds.

Steven Alexopoulos (Managing Director, Senior Equity Research Analyst, U.S. Mid- and Small-Cap Banks)

Got it. Thanks for the color, and I'll go back to the queue. Thanks.

Operator (participant)

Thank you. The next question today comes from the line of Brody Preston from UBS. Please go ahead. Your line is now open.

Brody Preston (Equity Research Analyst)

Hey, good morning, everyone.

Speaker 13

Morning.

Brody Preston (Equity Research Analyst)

Craig, I just wanted to follow up on the cash comment. So if we're- if you're using the forward curve, which has the Fed funds ending at 4% on the high end of the target range for 2024, so like 3 and 7/8 at the midpoint, why not use the cash at the end of the year or sometime in the first quarter of 2025, maybe to pay back that FDIC note? I mean, you'd just be earning, like, 35-40 basis points on it at that time, so it's pretty, pretty NIM dilutive, and I'm assuming that y'all feel like you have a pretty decent handle on the SVB deposits now. Like, is that contemplated in your thought process at all?

Speaker 13

Yeah, I'm going to let Tom amplify what I'm going to say here, but right now, where rates are, there's a positive arbitrage in there, and while it's dilutive to NIM, it's accretive to net interest income. Obviously, as we move into more rate cuts, it becomes less attractive to leave that Purchase Money Note out there. And with the excess liquidity we have, we would have some optionality of pulling that down. Tom, would you like to amplify that anyway?

Andrew Giangrave (EVP, Chief Credit Officer)

I mean, I think the only comment I'd make is that, again, that excess liquidity and having that cash provides that option for us, should rates follow the forecasted path in the forward rate curve. So that's where we're at.

Brody Preston (Equity Research Analyst)

Okay. Got it. And then I did want to circle back. I think I heard you earlier, Craig, that you said you expected the SVB loans to remain flat, you know, around like in the 50s, you know, $1 billion-ish kind of area for this year. I guess I wanted to ask, like, a little bit of a two-part question here. What is kind of like the mix that you're assuming within that? Just because I saw that the cash flow dependent balances were up, you know, about $1 billion this quarter. And then two, like, how do you think about, you know, the components of growth and what it does to the multiple? Because, you know, you kind of have these two divergent paths, right?

If you can grow SVB, you know, that should naturally come with higher DDA balances, and that's really enhancing to your multiple over the long term versus kind of growing the higher-yielding commercial bank and maybe funding it more with, you know, your savings product. You know, it is great for balance sheet growth, but I think investors would view that as less multiple enhancing. Like, how do you think about those two paths?

Elliott Howard (Director of Financial Strategy)

Yeah. Brody, this is Elliott Howard. I think on, you know, the SVB growth, we're expected to be up, you know, slightly from about mid-fifties range this year, and a lot of that in the Global Fund Banking. Craig mentioned that our pipeline was up, you know, $1.5 billion in the fourth quarter from where it was, just really as a result of kind of being back in the market more fully in the second quarter. You know, I think we're still seeing headwinds, as you know, Marc mentioned, in Tech and Healthcare, just given the overall kind of living environment. Longer term, I think we're bullish, you know, on the SVB growth. You know, as market activity returns, just with the sentiment of our clients and the outreach to new clients.

Yeah, I think with that, you know, certainly with the loan growth, we'd expect more deposit growth to come as well as that returns, and that's at a, you know, cheaper rates than what we have, certainly kind of in our savings products and Direct Banks. So the more that we can grow the SVB, you know, we, we do think that'll be kind of, you know, better for the overall bank and earnings.

Brody Preston (Equity Research Analyst)

Got it. So just to confirm, though, for 2024, it does sound like we're leaning more into the commercial bank and maybe kind of funding that with higher cost savings deposits. Is that fair?

Speaker 13

Well, we're also projecting mid-single-digit growth in the general bank as well, so it's just pretty spread across the loan portfolios.

Brody Preston (Equity Research Analyst)

Okay, I'll step back in the queue.

Operator (participant)

Thank you. The next question today comes from the line of Christopher Marinac from Janney Montgomery Scott. Please go ahead. Your line is now open.

Christopher Marinac (Director of Research)

Thanks. Good morning. Just wanted to ask more about the general criticized loan trends, you know, beyond what we saw on the deck on office and the SVB portfolio.

Andrew Giangrande (EVP, Chief Credit Officer)

Yeah, sure. This is Marisa Harney. Obviously, it's the trend we are seeing are concentrated in general office and innovation. I think we've seen a moderate migration in CNI, but nothing at this point of any concern.

Christopher Marinac (Director of Research)

... Great. And then the charge-off guide being a little higher now in Q1 and then a little lower for the whole year, does that indicate the sort of, kind of past sort of cleanup, or cleanup from past issues? Or do you see sort of, I guess, some greener shoots that credit can improve as this year goes on?

Andrew Giangrande (EVP, Chief Credit Officer)

Yeah, I think it's gonna be the continued theme that we spoke about last quarter and this quarter. It's gonna be concentrated in office innovation and our equipment finance. Obviously, there's the secular shift in office that's still a challenge, especially in this interest rate environment. On the innovation, I think Marc highlighted well the challenges in the market. And then the equipment finance side, it's really working through some of those older vintages. But we feel like the tightening of our underwriting in that portfolio and some of the increase in collection efforts should start to show some benefits in the back half of the year.

Christopher Marinac (Director of Research)

Great. Thank you very much for taking my questions.

Operator (participant)

Thank you. Our next question today comes from the line of Brian Foran from Autonomous. Please go ahead. Your line is now open.

Brian Foran (Partner, Universal & Regional Banks)

Hi. Maybe to follow up on credit and these four kind of main portfolios, the plus the office, the two investor-dependent, and then the small ticket equipment finance. So I think they total about $6.5 billion now, and you give us the reserves on most. But then I guess you also have pretty heavy charge-offs already and some purchase accounting marks. I don't know if it's easier to talk about them as a group or some of them separate. But is there any way to, like, frame between the allowance, the charge-offs to date, and the purchase accounting? Like, what is the cumulative loss you've now recognized on these portfolios?

Craig Nix (CFO)

Brian, this is Craig. I'll take those individually and in aggregate, because I think it's important to really size that portfolio relative to the overall loan portfolio. If you take those three components: commercial, general office, equipment finance, and the investor-dependent loans, whether they're growth stage or early stage, those total about $11.3 billion, which is 8% of the loan portfolio. If you look at those portfolios, we have total loss absorbing capacity of around 6.06% on net charge-offs for the year of around 3.6. So if you aggregate those portfolios, our coverage is 1.9 times.

If we slice it down to the individual portfolios, commercial, general office, we have a coverage ratio of 1.1, an allowance of 7.99% on a charge-off ratio of 7.48. On the equipment finance, the allowance is 3.52%, and charge-off is 1.87, so around 1.9 coverage. And then on investor dependent, we have an allowance of 5.21 and a purchase discount of 3.58, which totals the total loss-absorbing capacity of 8.79. So the allowance itself covers the charge-off of 4.66, but when including that purchase discount, which is available to absorb absorb losses, takes it to 1.9 times.

So we feel really good about both our projections there and about our coverage, in terms of charge-offs, both that we've incurred and that we expect to occur, moving forward.

Brian Foran (Partner, Universal & Regional Banks)

That's really helpful. I guess on the buyback, you know, I'm assuming you're not going to answer the obvious question of sizing it for the second half of the year. But maybe can you just remind us, you know, as we've moved through this year, there's been CET1, there's been CET1 ex the loss share, there's been the leverage. You know, it seems like some of the divergent metrics are starting to converge, but, you know, when you look at kind of your excess capital position, what number are you focused on? Is it, is it the roughly 12 pro forma CET1 versus the 9-10 target? You know, with the different capital metrics, what's the focus right now as you move to midyear?

Craig Nix (CFO)

Yeah, we look at it sort of. I mean, if we do an acid test as of 12/31/2023, with Basel III, it's around 12. If we do an acid test with Basel III, ex loss share, it's around 11. So that range of 11-12, sort of an acid test. That's at 12/31/2023, leaves us well above our target ranges. And then obviously, as time goes on, we're accreting earnings at about 36 basis points a quarter, and our risk-weighted assets are taken around 27. So we look it's going to continue. Our capital position is going to continue to build.

So we do think that share repurchases are gonna, we feel confident about share repurchases, not only in the rate we're accreting capital, but just the absolute levels of capital, our capacity to handle our balance sheet growth, SVB integration efforts, and our positioning with respect to Basel III, all give us confidence in a share repurchase plan. And you're right, I really can't speak to the size of that until we get through our internal stress testing, which is being conducted now as part of our capital plan. We do expect the timing, subject to necessary internal and regulatory approvals, to be in the second half of this year. So I hope that's helpful.

Speaker 13

Perfect.

Craig Nix (CFO)

But we are looking at-

Speaker 13

That's very helpful.

Craig Nix (CFO)

Definitely cognizant that our capital ratios are well above our target ranges, looking at it in a myriad of different ways.

Speaker 13

Thank you. That's great.

Craig Nix (CFO)

Yep, you're welcome.

Operator (participant)

Thank you. As a reminder, if you would like to ask a question, please press star followed by one on your telephone keypad. The next question today is a follow-up question from Steven Alexopoulos from JP Morgan. Please go ahead. Your line is now open.

Steven Alexopoulos (Managing Director, Senior Equity Research Analyst, U.S. Mid- and Small-Cap Banks)

Hey, guys. Thanks for taking my follow-up. So the market's pretty happy with the news of buybacks coming back in the second half. My question is: so given that tangible book value growth is such a key focus for the senior team, at this valuation, I'm sure you'd love to be buying back the stock today. But at what valuation do buybacks become less attractive, right? I mean, if the stock is trading, you know, Marc delivers what we think at SVB, just saying it's 1.5 or something like that this year, do you still buy back in the second half? Like, where's, like, the line in the sand where you don't find buybacks as attractive?

Craig Nix (CFO)

Well, well, we look at it just like we would any other acquisition, so there are a myriad of payback periods and tangible dilution payback periods that we look at. I'm not going to get into our modeling on it, but we certainly scrutinize repurchases just like we would scrutinize purchasing, you know, another bank in the open market. Tom, do you have anything else? Tom, Tom's responsible for some of the modeling we do there, but I think that's generally our approach. I don't think I left anything out there.

Tom Eklund (Treasurer)

No, I think that's exactly right. I mean, we bought back above tangible book value in the past, and it really has to do with sort of what our earnings trajectory looks like and sort of what other opportunities are out there. So, yeah, it varies, but it's not like there's a firm ceiling.

Steven Alexopoulos (Managing Director, Senior Equity Research Analyst, U.S. Mid- and Small-Cap Banks)

Got it. Okay. Thanks. And just one other one. On the NII guide, do you guys include the expected costs of this $8 billion-$11 billion debt issuance? Is that in there, or if you issue, will that then impact the NII guide?

Craig Nix (CFO)

Yeah, it's in there, but the issuance this year would be muted, so it won't have a significant impact on this year's NIM. But going forward, it will... Based on where our costs are today and what the costs are anticipated on that, will probably be a headwind moving forward.

Steven Alexopoulos (Managing Director, Senior Equity Research Analyst, U.S. Mid- and Small-Cap Banks)

Yep. Yep, got it. Okay.

Craig Nix (CFO)

Yep.

Steven Alexopoulos (Managing Director, Senior Equity Research Analyst, U.S. Mid- and Small-Cap Banks)

Thanks for taking my follow-up.

Craig Nix (CFO)

Yep. You're welcome.

Operator (participant)

Thank you. The next question today is a follow-up question from Brody Preston from UBS. Please go ahead. Your line is now open.

Brody Preston (Equity Research Analyst)

Hey, thanks, guys. I just had a couple clarifying questions that I wanted to ask. The first one was just on the Innovation C&I and cash flow dependent portfolio. As I said earlier, that was up $1 billion in balances. Was there any, like, movement from, like, the growth stage portfolio there, or was that kind of, like, true growth within that portfolio? And if so, do you happen to kind of have a read on, you know, what the industry verticals were that drove that growth?

Craig Nix (CFO)

Marc, do you have any insights on that? I don't have that right in front of me here.

Speaker 13

Yeah, so for the SVB portion of the portfolio, the cash flow dependent growth would have been largely centered in sponsor finance and our project finance portfolios, and where, you know, we've continued in sponsor to have some elevated criticized, but on the new loan production. And, you know, generally speaking, these are loans that fund pretty close to inception. We're seeing, you know, really nice opportunities there, notwithstanding the broader backdrop. Hope that's helpful.

Brody Preston (Equity Research Analyst)

Okay, great. No, that's helpful. And Craig, do you happen to have what the unfunded commitment balances for the bank were at 12/31?

Craig Nix (CFO)

Not offhand. We can-- we'll take that offline.

Deanna Hart (SVP of Investor Relations)

Yeah, Brody, I can follow up with you. This is Deanna, on those numbers.

Brody Preston (Equity Research Analyst)

Okay, great. Thank you. And Deanna, just last one while I got you. That $198 loan accretion number, does that include any PAA that's related to the unfunded commitment book?

Deanna Hart (SVP of Investor Relations)

Yes, it would, it would be inclusive of both, both the on-balance sheet and off-balance sheet.

Brody Preston (Equity Research Analyst)

Awesome. Thank you very much, everyone. I appreciate it.

Craig Nix (CFO)

Yep. Thank you.

Operator (participant)

Thank you. I'm not showing any further questions at this time, so I'd like to turn the call back over to our host, Deanna Hart, for any closing remarks.

Deanna Hart (SVP of Investor Relations)

Thank you. Thanks, everyone, for joining our call today. We appreciate your ongoing interest in our company. If you have any further questions or need additional information, please feel free to reach out to our investor relations team. We hope you have a great rest of your day.

Operator (participant)

Ladies and gentlemen, this concludes today's conference call. You may now disconnect. Have a wonderful day.