Third Coast Bancshares - Q3 2023

Transcript

Operator (participant)

Greetings, and welcome to Third Coast Bank Q3 2023 earnings conference call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Natalie Hairston. Thank you, Ms. Hairston. You may begin.

Natalie Hairston (SVP)

Thank you, operator, and good morning, everyone. We appreciate you joining us for the Third Coast Bancshares Conference Call and webcast to review our Q3 2023 results. With me is Bart Caraway, Chairman, President, and Chief Executive Officer, John McWhorter, Chief Financial Officer, and Audrey Duncan, Chief Credit Officer. First, a few housekeeping items. There will be a replay of today's call, and it will be available by webcast on the Investors section of our website at ir.tcbssb.com. There will also be a telephonic replay available until November 3, 2023, and more information on how to access these replay features was included in yesterday's earnings release.

Please note that the information reported on this call speaks only as of today, October 26, 2023, and therefore you advise that time-sensitive information may no longer be accurate as of the time of any replay, listening, or transcript reading. In addition, the comments made by management during this conference call may contain forward-looking statements within the meaning of the United States federal securities laws. These forward-looking statements reflect the current views of management. However, various risks, uncertainties, and contingencies could cause actual results, performance, or achievements to differ materially from those expressed in the statements made by management. The listener or reader is encouraged to read the annual report on Form 10-K that was filed on March 15, 2023, to better understand those risks, uncertainties and contingencies. The comments made today will also include certain non-GAAP financial measures.

Additional details and reconciliation to the most directly comparable GAAP financial measures were included in yesterday's earnings release, which can be found on the Third Coast website. Now, I would like to turn the call over to Third Coast Chairman, President, and CEO, Mr. Bart Caraway. Bart?

Bart Caraway (Chairman, President, and CEO)

Thanks, Natalie. Good morning, everyone. Thank you for joining us today. I'll begin by highlighting the company's performance for Q3. John will then provide a more detailed financial review, and Audrey will give a credit update. Then, before we take your questions, I'll return to discuss our outlook. During Q3, we achieved significant progress towards our strategy of conservative loan growth, disciplined expense management, and strengthening shareholder value. Total assets reached $4.22 billion during Q3, an increase of 6.4% over the prior quarter and 19.9% increase over the prior year period. We booked over $226 million in high-quality loans, an increase of 6.8% sequentially and 19.7% increase over Q3 last year.

Likewise, deposits reached $3.65 billion, a 7% increase from the linked quarter and a year-over-year increase of 22.2%. In response to market conditions, we took some deliberate actions to reduce our operating expenses and other overhead costs, including the previously announced winding down of our auto finance group, as well as a 5% reduction in workforce. As a result, our full-time employee headcount now stands at approximately 370, which is consistent with our numbers from the beginning of the year. We have been able to grow the bank by $443 million in that same time frame. During the quarter, we also booked a $2.6 million provision for credit losses, primarily driven by strong loan growth for the quarter, which Audrey will discuss in more detail in her prepared remarks.

These actions were necessary to position us for Q4 and establish a solid foundation for 2024. Deposit rates remained highly competitive for this quarter, and we were able to increase our deposits by $238 million or 7% from the previous quarter, a notable achievement. Our success in deposit acquisition can be attributed to the deposit campaign contest held across a multiple lines of business, including retail, private banking, treasury management, and commercial bankers. We were able to raise deposit by an impressive $275 million within a short span of four months. Our bankers' unwavering focus on deposits, coupled with their commitment to building strong relationships with clients, played a crucial role in achieving this feat. This approach, combined with our commitment to providing innovative solutions and exceptional service, has resulted in success across all our markets.

Our Insured Cash Sweeps and treasury management services have particularly proven to be innovative solutions contributing to our company's growth. As we progress, we will continue to explore new ways to deepen our relationships with existing customers and attract new ones, all while maintaining our focus on deposits and loans. Additionally, we were able to increase book value and tangible book value per share by 1.4% and 1.5%, respectively. By delivering exceptional shareholder value and increasing tangible book value per share, we have made significant progress in enhancing our balance sheet and maintaining a strong financial position in Q3. We believe we can continue to drive increased shareholder value and achieve sustainable success long term. With that, I'll turn the call over to John for a more detailed financial review. John?

John McWhorter (CFO)

Thank you, Bart, and good morning, everyone. We provided the detailed financial tables in yesterday's earnings release, so today I'll provide some additional color around select balance sheet and profitability metrics for the quarter. As Bart mentioned, loans were up $226 million, deposits were up slightly more at $239 million, and total assets reached $4.22 billion, all new records for the company. Net interest margin for the quarter was down 11 basis points, slightly more than expected, due primarily to higher than expected loan growth. Spreads on new loans tend to average less than the bank's current net interest margin. Loan growth is expected to be less in Q4, which should result in less margin pressure. Additionally, the bank has a $100 million treasury security maturing in October, yielding 2.25%.

If the proceeds were used to pay down wholesale funding, the net interest margin would improve 2 basis points-3 basis points. We therefore believe that for Q4, the net interest margin will be down less than 5 basis points. Non-interest expense was materially higher than expected due to several non-recurring items, including severance expenses, fraud losses, and legal fees associated with those items. As previously mentioned, severance expense totaled $460,000. We reduced headcount to roughly where we started the year, and as a result, we expect Q4 salary and benefit expense to be less than $16 million. All other non-interest expenses were up $1.35 million in Q3 versus Q2. This increase was primarily due to the fraud losses and legal fees, as previously mentioned.

Even though net interest margin was down 11 basis points for the quarter, net interest income was up $1.2 million to $35.3 million due to strong loan growth. We have shown consistent growth in net interest income since going public in Q4 of 2021, when our net interest income was only $24.6 million. Q3 performance also resulted in increases in both book value per share, which reached $24.57, and tangible book value per share, which reached $23.17. This is up 11% or $2.23 from $20.94 since going public in 2021. This compares very favorably to our peers, who, over the same period, saw an average decrease in tangible book value of 9.3%.

Also, as a reminder, we use the if-converted method to calculate earnings per share. For Q3, this resulted in anti-dilution, and therefore the preferred shares were excluded from our diluted share count. We expect this to flip back in Q4. That completes the financial review, and at this point, I'll pass the call to Audrey for our credit quality review.

Audrey Duncan (Chief Credit Officer)

Thank you, John, and good morning, everyone. Third Coast's credit performance for Q3 was again strong. Our total non-performing assets currently stand at $16.4 million, which is 0.39% of total assets, and our net charge-offs have stayed extremely low at $24,000 for the quarter. The $6.4 million increase in non-performing loans is primarily due to the placement of a $2.3 million loan on non-accrual and a $2 million loan that was over 90 days matured and still accruing. Both loans are well secured and no losses are anticipated. In October 2023, the $2 million loan was renewed and is current. The remaining loans placed on non-accrual this quarter consist of two relationships totaling $2 million, and minimal losses are expected as those loans are worked out.

The remaining loans that are over 90 days past due at quarter-end are well secured and in the process of renewal. Overall, we remain confident in our asset quality, which continues to remain strong. Provisions for credit losses totaled $2.6 million and related to provisioning for new loans and commitments. The ACL remains at the high end of the range calculated under the new CECL methodology. Consistent with our prior quarters, loan growth of $226 million continues to be well diversified from a loan category standpoint. Commercial loans were up $123.7 million, and real estate loans were up $106 million from the previous quarter.

The loan portfolio mix is well balanced, with commercial and industrial loans accounting for 36% of total loans, and owner-occupied and non-owner occupied commercial real estate at 15% and 16%, respectively. Non-owner occupied office represents 1.8% of the loan portfolio, with non-owner occupied medical office accounting for an additional 1.3%, while owner-occupied office and medical office total 2.3% of total loans. The office portfolio generally consists of Class B, with some owner-occupied Class C space and is all located within our Texas footprint. Performance for the quarter is a testament to our solid business model and our commitment to prudent risk management. We are pleased to see continued loan growth across a diverse range of loan categories, which further strengthens our position in the market.

At the same time, we're mindful of the potential risks that may arise from a changing economic environment. We will continue to closely monitor our credit quality and continue to be conservative in our lending practices to maintain our strong credit performance. Overall, we are confident in our ability to navigate the current economic landscape and stay committed to delivering conservative loan growth. With that, I'll turn the call back to Bart. Bart?

John McWhorter (CFO)

Thanks, Audrey. As we move into Q4 and end of year, we are confident in our goal to achieve operating leverage, which will translate into increased shareholder value. We will maintain an active focus on managing expenses by carefully analyzing our budget and identifying areas where we can reduce costs without sacrificing customer quality or operational efficiencies. At the same time, we will continue to invest in key areas of our business that are critical to our future growth. Our commitment to full wallet relationship banking remains a top priority. We will continue to leverage our treasury management and other services, deepen existing customer relationships, and attract new ones. In addition, our innovative custom digital solutions, such as Banking-as-a-Service and embedded finance platforms, will play a larger role in 2024. We have successfully transitioned from the proof of concept stage to fully operational with wide partnerships.

Our bankers and branches are strategically located in Texas's best markets, providing access to some of the highest quality deals available, allowing us to remain conservative in our deal approach and choose the most promising opportunities. Looking ahead, we will remain optimistic about our ability to continue to grow our business. We will continue to prioritize asset quality and make prudent and proactive decisions relative to the current economic environment. Our dedicated team is committed to delivering exceptional service to our customers and creating long-term value for our shareholders, and we are confident that our growth strategy will enable us to navigate the challenges and opportunities that lie ahead. This concludes our prepared remarks. I would now like to turn the call back over to the operator to begin the question and answer session. Operator?

Operator (participant)

Thank you. We will now be conducting a question and answer session. If you would like to ask a question, please press star one on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star two if you would like to remove your questions from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. One moment, please, while we poll for questions. The first question comes on the line of Graham Dick with Piper Sandler. Please go ahead.

Graham Dick (VP of Equity Research)

Hey, everyone. Good morning.

John McWhorter (CFO)

Morning, Graham.

Graham Dick (VP of Equity Research)

So I just wanted to start on expenses. You've got the $460,000 in severance, $400,000 in fraud losses, and then you mentioned another legal charge. What was the size of that legal charge, like, this quarter?

John McWhorter (CFO)

Yeah, we didn't detail out the legal expenses. I mean, you know, anytime you have a reduction in force, there's legal fees associated with agreements to the employees, and we didn't detail that out just because, you know, we always have lots of legal fees. But it was, I mean, it was somewhat material. It was certainly non-recurring.

Graham Dick (VP of Equity Research)

Okay. Yeah, I, I'm just trying to get a sense for where maybe the growth came off of the- I think we had talked about, you know, $24 million, give or take, last quarter. So I'm just trying to get a sense for what drove the, the higher expense base this quarter. Was it, was it the deposit competition you guys were talking about, or was it related to the loan growth, which was really strong this quarter? Just trying to—any color there would be, would be helpful.

John McWhorter (CFO)

Yeah, I mean, there were some incentives related to the deposit campaign where we were paying out prizes to people. You know, there were bonuses earned during the quarter. But, you know, I think probably the important number is where we think Q4 will be, and I'm pretty confident that it'll be less than $16 million in total salary expense and total non-interest expense, we think will be less than $26 million.

Graham Dick (VP of Equity Research)

Okay. Okay, that's helpful. Okay, and then I guess looking into 2024, I mean, does- What's the, what's the- Sounds like you guys are, you know, focused on expense management, but obviously you're still a growing bank, having to invest where needed. What's your all's outlook for expense growth as you begin to budget for 2024?

John McWhorter (CFO)

Yeah, that's a good question. I mean, we certainly talk about it a lot. And, you know, on the loan side, on the growth side, we've, you know, for the last couple of years, talked about growth being lumpy, that it makes it hard to predict. We certainly weren't expecting $225 million in loan growth for the quarter. And it's not as if all of those deals were sourced and approved and booked all in the quarter. Some of them were carryover from previous quarters. And, you know, the same sorts of things will happen on expenses, and that's kind of what happened, this catch up on expenses that we weren't expecting. But, you know, looking ahead to next year, I mean, we – I mean, our plan is to be disciplined.

I mean, we're trying to grow faster than expenses. I think we've done a pretty good job with that in the past, and I think we will again next year. So, you know, if we think that, you know, net interest income is going to continue to grow in that 10%-15% range. Expenses will be less than that, so they'll be in the 5%-10% range.

Bart Caraway (Chairman, President, and CEO)

Yeah, Graham, if I could add a little color to it. Again, you know, I think we're in the process as we've grown and reallocating resources internally to be more efficient. And I think you can see that from, if you look at our headcount, not just the expenses, but just the headcount, you know, we started the year at 369 employees. You know, we probably got a little ahead, up to, you know, 390 or so employees. Now we're back down to about 370, and we've grown $443 million. So what you're seeing is we're kind of managing, you know, the employee headcount to still continue to grow.

This whole process has been, what we've talked about before, is that we've got to grow into a little bit of the operating efficiency as well as cut costs. I think the $226 million coming in Q3 is actually fortuitous because I think Q4 will be slower, but it tees up the opportunity for us to grow a little bit into our, our operating efficiency, control our headcount, and also have a, an increase in revenue that's going to affect the bottom line. I think Q4 is going to look a lot better, and it's certainly going to tee us up for a good 2024.

Graham Dick (VP of Equity Research)

Okay, that's very helpful, Bart. And then I guess you touched on it a little bit there, but the loan growth outlook, you know, obviously, as you guys said, some unexpected stuff happened. It got, you know, things got pulled forward to this quarter. What do you guys think for next year on loan growth? I think this year, before this quarter, we had talked about maybe $300 million or $400 million in growth for the full year. Can you frame up what you expect in 2024? Do you think it'll be a little bit less than that as the economy cools down, or are you still seeing pretty good opportunities on the lending side to do something similar?

Bart Caraway (Chairman, President, and CEO)

Yeah, I mean, I think the nice thing, the position we're in, is we've had some really high-quality customers that we have been onboarding. And it's just a unique market in that we can be very choosy. And so it's been very nice to be able to pull, you know, high-quality customers from some of the competitors and establish relationships. So with that, I mean, you'll still continue to see some growth. I think for the, you know, Q4, the growth is going to be very mild, $50 million-$100 million. But when looking at 2024, we think somewhere between $300 million and $400 million is quite reasonable. And again, you got to factor in that we're going to have, you know, some attrition in loans.

There's going to be some pay downs and payoffs with it. But, you know, I think net growth of $300 million-$400 million is very reasonable, and I think all of that is coming from just almost high grading the portfolio. We just have such excellent clients that we're choosing that I think the portfolio is even going to get even better as we continue to grow. So we're very excited about it. I think it's an opportunity for us to gain market share in our markets with some of the best clients that are out there, with, you know, call it again, $300 million-$400 million in net growth for 2024. John, do you have anything to add to it?

John McWhorter (CFO)

I mean, rates may affect that somewhat. To the extent that rates were to continue to go up, we'd be at the lower end of that scale. If they come back down, I think we'll see even more opportunities, particularly on the builder side.

Graham Dick (VP of Equity Research)

Okay, perfect. That's, that's really helpful color. That's all for me, guys. Thanks.

Bart Caraway (Chairman, President, and CEO)

Thank you, Graham.

Operator (participant)

Thank you. Next question comes from the line of Michael Rose with Raymond James. Please go ahead.

Michael Rose (Managing Director and Equity Research)

Hey, good morning, guys. Thanks for taking my questions. Just-

Bart Caraway (Chairman, President, and CEO)

Morning, Michael.

Michael Rose (Managing Director and Equity Research)

Good morning. Just wanted to start on, you know, kind of the continued, you know, negative mix shift in deposits. Look, I know you guys have had really strong deposit growth. It's been a welcome sight to see. But, you know, obviously, your deposit costs are fairly high relative to peer, and I think a function of that is just the strong, you know, asset growth that you've had.

But just as we think about the next, you know, few quarters in a, in a rate environment where Fed rates are kind of at or near a peak, you know, how should we think about the progression of, of deposit cost betas and, you know, mix shift as it relates to, you know, kind of, the ongoing, you know, asset, you know, repricing that is going to help the, the margin again this quarter? Just trying to kind of frame up the, the puts and takes as we think about, yield and margin progression into next year. Thanks.

John McWhorter (CFO)

Sure. Looking at non-interest-bearing balances first, as a percent of total deposits, they've certainly come down. The dollars haven't come down so much. On an average quarterly basis, our non-interest-bearing was actually up a little versus last quarter. But, you know, those deposits are certainly harder to grow when we have a quarter where we're growing $240 million in deposits, it's hard for those non-interest-bearing to keep up. Yeah, that certainly is a negative shift in the mix. You know, we will continue growing dollars, but as a percent of total deposits, to the extent that we're growing fast, that's going to be harder to keep up. We're certainly seeing more deposits go into CDs than anybody would have predicted a year ago.

But the good news about being relatively high as far as cost of funds is I think we've already repriced most of the portfolio. We just don't have much left to reprice. Higher for longer is probably good for our margin, I think especially relative to peers. I just don't think we'll see much change. And from an asset liability perspective, we're almost exactly evenly matched. Our provider for ALM has said that we're, you know, certainly one of the most closely matched banks in their portfolio of several hundred, maybe singularly the most evenly matched. So, you know, if rates stay right where they are, I don't think we'll see much change in the margin. And even if they change a little bit, I don't think we'll see much change.

Bart Caraway (Chairman, President, and CEO)

Yeah, you know, the numbers kind of mask a lot of the stuff that's going on in the bank, and I think you'll see over time. One of the positive notes is between the commercial bankers and, you know, the treasury management side, is that we're seeing a lot of onboarding of accounts. We certainly have a lot more full wallet relationships than we've ever had, and we're rolling out more sophisticated products and being able to handle more sophisticated treasury customers. And they're quite busy onboarding customers with it, you know, but they're keeping lower DDA balances because, obviously, they want to earn, you know, as much as they can on their money. Everybody's managing their money carefully. But we do have a lot of customer acquisition.

Just, we're growing so fast, as John said, the percentage-wise, it's tough to keep up. But, you know, overall, what I would tell you, our customer base, more than ever, tends to have both deposit accounts and loans with us. It's very much a full wallet relationships going forward.

Michael Rose (Managing Director and Equity Research)

I appreciate all the, the color. Thanks. And then, you know, obviously, just on the headcount reductions, of course, some of that's strategic. Just as we think about the next, you know, year or so, I mean, are there other businesses or. You know, I know you got out of the auto business, are there other portfolios, other optimization efforts that you could look to? And maybe just on the loan side, you know, are there areas that you're emphasizing versus, you know, kind of de-emphasizing? I assume office might be one of those, but we'd just love some color. Thanks.

Bart Caraway (Chairman, President, and CEO)

Yeah. I mean, if I could start with just the headcount part of it. I think we're looking at this and exploring all kinds of efficiencies across every line of business. I think everybody in the bank has bought into the efficiency side of it. It's been very interesting how we can even utilize and cross-train employees. For instance, we have some retail employees that volunteered to learn some of the BSA side, and with excess capacity, they're actually, you know, performing some of the BSA/AML tasks with it. So it's neat that everybody's kind of pitched in, and we're finding ways to utilize people to their fullest. At the same time, as we continue to grow, you know, some functions need, you know, more resources.

So as thinly staffed as we are, you know, we do have to continue to think about where we're going in the future and make sure we're making proper investments. At the same time, I think John does a fantastic job of looking at every line of business, and monthly, you know, we grade that line of business. You know, our existing lines of business that are left are very profitable, and we're very pleased with their performance, and I think they're getting, with scale, even more efficiency. So I don't see at this point that there's another line of business to exit as much as we're just everybody's gonna grow into their size, you know?

I think if you look at all of our different lines of business, they all can scale and become more accretive to us with just, you know, even a little bit more growth. As far as the loan mix, I don't know, Audrey, if you want to have any comments on that, or we might-

John McWhorter (CFO)

As far as what we're not looking at, I would say, you know, you mentioned office, of course. Our office is holding up really well. We only have one loan that's classified for $1 million, but we're not looking at office. I would say not looking in retail, and we don't do much, wouldn't really entertain much multifamily at this time. Really focusing on C&I and, you know, the full wallet relationships that we've been talking about.

Michael Rose (Managing Director and Equity Research)

Makes sense. And John, maybe just one final one for me, just the loss in other non-interest income. Sorry if I missed it in the release, but kind of what drove that? Was there, you know, something that's non-recurring in there, or just would love an explanation. Thanks.

John McWhorter (CFO)

Well, it is non-recurring. I don't know if, I mean, you're talking about the one full loss?

Bart Caraway (Chairman, President, and CEO)

Well, no. In other non-interest income-

John McWhorter (CFO)

Oh

Bart Caraway (Chairman, President, and CEO)

-we had an unfavorable swing quarter-to-quarter, and some of that is a little bit of a swap between quarters there, Michael, on SBIC. I mean, we can-- you know, we have several SBIC investments, and some quarters they make money, and other quarters they don't. So most of it was related to SBIC having a great quarter last quarter and actually losing a little money this quarter, which, we don't have big investments there. It's usually not material enough to change a line item, but it just happened to be this quarter.

Michael Rose (Managing Director and Equity Research)

Understood. Appreciate all the color. Thanks for taking my questions.

John McWhorter (CFO)

But, you know, Michael, I just might add one thing on that. You know, the SBICs, I mean, they don't often have quarters where they're selling an asset at a loss that we're needing to realize, so I certainly wouldn't expect that going forward. We didn't point it out because... I mean, I don't guess y'all would typically take out something like that. I mean, we didn't highlight it last quarter that they had a good quarter. It's just kind of one of those fluky things that went from good to bad over consecutive quarters. And it was, I don't know, to the tune of, I don't know, $250,000 good last quarter and down $250,000. I mean, it was a swing kind of of that sort of magnitude.

Operator (participant)

Thank you. Next question comes from the line of Bernard Von Gizycki with Deutsche Bank. Please go ahead.

Bernard Von Gizycki (Equity Research Analyst)

Hey, guys. Good morning. John, heard your comments on the drivers of the lower NIM than expected, given the loan spread dynamics. You know, what kind of spreads are you putting on to the new loans versus the portfolio average? And, you know, what are your expectations on loan spreads from here?

John McWhorter (CFO)

Yeah, so, you know, our margin is, you know, relatively high compared to peers, but our spreads are probably much closer. We're competing for deals every day. I mean, the reason our margin is better is because we don't have the AOCI losses, we don't have the legacy investment portfolio that's relatively low yielding. But for new business going forward, as we're looking at it, I mean, we typically won't do a deal that is less than Fed funds plus 300. So with Fed funds today or SOFR what—however you want to look at it, is 5.25. We typically don't do a deal for less than 8.25 today. There—you know, there could be some exceptions to that, but for the larger floating rate deals, they're typically 300 over SOFR.

Bart Caraway (Chairman, President, and CEO)

And I think I would add just that, you know, with the flight quality and our chance to get some of these really high quality deals, the margin is a little less. Whenever you're talking about, you know, a customer that could basically pick any bank they wanted to go with, and fortunately, we've been able to get those type customers. It is a little thinner margin, but it's also a better quality deal. So obviously, there's always trade-offs that we try to manage.

Bernard Von Gizycki (Equity Research Analyst)

Got it. And then just on the auto finance exit, I think last quarter you noted that there—you'd expect something like direct expense savings would be $500,000 plus, and you were reallocating $50 million of loans into more strategic areas of focus. Is that still kind of like the same thought process there? Any updates?

Bart Caraway (Chairman, President, and CEO)

Yeah. I mean, the team has been disbanded. At this point, that portfolio is paying down. I don't have the numbers, right, but it's way less than $50 million now.

John McWhorter (CFO)

Yeah, and Bernie, that was effective September thirtieth, so we really haven't seen any of the savings there.

Bart Caraway (Chairman, President, and CEO)

Yeah.

John McWhorter (CFO)

Particularly on the salary side. You know, on the loan side, we have certainly stopped doing that last quarter. And, you know, I think that portfolio has about a four-year weighted average life, so it pays down $several million a month, and we're reallocating, you know, those proceeds to other loans. But the direct effects are... We didn't see any of it in Q3. We'll see more in the fourth. Not super material, but, you know, every little bit adds up. We're certainly looking at everything.

Bernard Von Gizycki (Equity Research Analyst)

Okay, great. Thanks so much.

Operator (participant)

Thank you. Before we take the next question, a reminder to all the participants that you may press Star and One to ask a question. Next question comes from the line of Matt Olney with Stephens Inc. Please go ahead.

Matt Olney (Managing Director)

Hey, thanks. Good morning. Want to go back to the discussion around the margin, and John, you mentioned the spreads on some of the more recent loan growth. Appreciate the commentary there. Any other color about how those spreads have changed during the course of the year? Have those maintained similar levels, or any kind of widening that you've seen this year so far?

John McWhorter (CFO)

I mean, Bart, Audrey, I mean, certainly jump in. I, I don't think they have changed that much. I think we've, you know, for the bigger commercial corporate type loans, I think we're in that SOFR + 300 range. We do see deals that are at, you know, +200, but we're typically just not doing those. I, I think we've commented before that we could be growing faster if we were willing to do those, but we're mindful of our capital positions and our liquidity position and are, you know, not often doing things that are certainly in the low 2s. I mean, there, there may be the occasional deal that, you know, +250 or 275, but those are kind of more the exception than the, the rule.

Bart Caraway (Chairman, President, and CEO)

Yeah, I mean, Audrey and I have talked that we've been very disciplined about trying to make sure we have kind of at least a 300 spread.

Audrey Duncan (Chief Credit Officer)

Right.

Bart Caraway (Chairman, President, and CEO)

There have been a few, but they're deals that had a story behind them that makes a lot of sense for us to do. And, you know, certainly ones that I would choose to do it, you know, all over again with it, because they're good quality customers, and there's a reason that we're doing it. So I think from the loan selection, I think we've been very selective and disciplined. I think that's what I'd continue to say.

John McWhorter (CFO)

Yeah, the exceptions are typically at least partially self-funded.

Bart Caraway (Chairman, President, and CEO)

Exactly.

Audrey Duncan (Chief Credit Officer)

They're the higher graded credits.

Bart Caraway (Chairman, President, and CEO)

Yeah.

Audrey Duncan (Chief Credit Officer)

They'd be a high pass. Otherwise, we, you know, make sure we don't go below so +300.

Bart Caraway (Chairman, President, and CEO)

Yeah, and even with that, I think we are seeing a lot of, you know, loan opportunities and, you know, maybe we do one out of every ten or something. I mean, it is market out there, obviously, there's a lot more loan demand than there is folks to fund it. So, you know, we're being able to see cherry-pick really good customers. And I think we'll continue to be just that disciplined as we go forward with it.

Matt Olney (Managing Director)

Okay, thanks for the commentary. And then, I guess as far as the incremental cost of funds that you're using to fund the loan growth, if we blend the growth, the dollar amount growth of the NIBs, along with the interest-bearing deposits, what's the incremental cost of the total deposits that you've seen more recently?

John McWhorter (CFO)

Yeah. For this last quarter, when we had the deposit campaign, and it really spanned the last two quarters, our cost of funds for those deposits was less. It was less than 5%. Wholesale deposits that we're needing to raise to make up the difference is probably more in the 5.30%-5.30% range. You know, it's hard for us to predict what the mix is going to be going forward as to, you know, our self-generated core deposits versus, you know, what is needed on a wholesale basis to make up the difference. You know, self-generated, you know, it's probably averaging in the 4.5% range, and then the wholesale in the 5.30% range.

Matt Olney (Managing Director)

Okay. Okay. Well, if I kinda take that and think about the margin, in 2024, it feels like there's a little bit more incremental pressure beyond Q4 we talked about, just if we assume those spreads continue. Is that the right way to think about the margin for next year? Little incremental pressure from Q4?

John McWhorter (CFO)

It is. If we would have grown loans $100 million in Q3, I think we would've been pretty close to our forecast of the margin being down plus 5. It is certainly a function of how fast we grow. Now, with that said, if we grow $300 million next year, it's certainly a smaller percent of the overall balance sheet, so it won't affect the margin as much as it would have this year. But it's, you know, it's gonna be less than 3.71 on average, the spreads for new business.

Matt Olney (Managing Director)

Okay. Yep, that makes sense. And then just lastly, capital. Can you talk more about just capital constraints, finding ratios that you're watching for, especially in light of if the pipelines do improve and loan growth's at the higher end, just kinda what kind of capital ratios are you watching closely?

John McWhorter (CFO)

Yeah. So there's- You know, our risk-based capital ratio was flat quarter-over-quarter, and that's the one that we watch most closely as a high loan-to-deposit ratio bank. But, you know, as long as we're earning in that 1% ROA range, it's gonna be, it should be capital accretive. And, you know, we may not be exactly there this next quarter, but, you know, certainly that's our bare minimum goal, and we expect to be there. And, you know, again, it'll be capital accretive, so we are not planning any capital offerings.

Bart Caraway (Chairman, President, and CEO)

Yeah, and I think in 2024, we should be, you know, capital accretive to where, you know, self-funding basically is what the goal is. And I, John, feel pretty good about being there where we don't need capital.

John McWhorter (CFO)

Yes.

Matt Olney (Managing Director)

So what you're saying is, I think, that threshold to internally generating enough capital, the ROA needs to be pretty close to 1% to get there. Is that right?

John McWhorter (CFO)

At the rate that we have been growing this year, yes, and we expect our growth rate to be a little bit slower next year. So it wouldn't have to be the one percent to be self-generating, but that's the one percent is certainly the way we were looking at it this year, and I think our growth is 20%+. So, you know, as we go down to 12%-15% growth next year, it'll take a little bit less to get to the same place.

Matt Olney (Managing Director)

Yep. Okay.

John McWhorter (CFO)

Okay.

Matt Olney (Managing Director)

And just one more, I guess, for Audrey. I think Audrey mentioned there were two loans that were—I think you said they were being worked out currently in the prepared remarks. What's the timeline on the resolution? Is that a near-term Q4 event, or could that move into next year?

Audrey Duncan (Chief Credit Officer)

Well, probably I would say into next year, but not—probably in Q1, I'd say.

Matt Olney (Managing Director)

Okay. And how would you characterize or describe the collateral on some of those loans relative to the cost basis?

Audrey Duncan (Chief Credit Officer)

Okay. Yeah. So the increase in non-accruals, we had a $4 million increase. One of them is a $2.3 million spec house, and the LTV brand new appraisal is 64%. It's in a great location in new construction, so we're not anticipating a loss on that. That was done in our community bank vertical. And then we also had a small builder in Southeast Texas that we've done, honestly, nearly 100 small homes for him over the past 8-10 years, and we've got a couple. But that relationship is $1.1 million that we put on non-accrual, three houses and then a couple of smaller loans. I have a $160,000 specific reserve on that relationship. That's our estimated at this point, so not, not significant.

And then the third non-accrual was a $900,000 borrowing base line of credit. We have a very strong guarantor with separate income on that, so we're not anticipating a loss in those specific reserves on that either. And then on those past dues, we typically, you don't see us with over 90 days past due and still accruing. We had a $2 million loan this quarter, but it is clear. It is renewed and current, and it's not a credit problem. It's also a real estate deal with an LTV in the 60% range, and then just two other smaller loans that are in the process of renewal, and those aren't credit concerns either.

Matt Olney (Managing Director)

Okay. Got it. Appreciate all the color, Audrey, and thanks to everybody, and thank you. Bye.

John McWhorter (CFO)

Thanks, Ben. Thanks, Ben.

Audrey Duncan (Chief Credit Officer)

Thanks, Ben.

Operator (participant)

Thank you. There are no further questions at this time. I would like to turn the floor back over to Bart Caraway for closing comments.

Bart Caraway (Chairman, President, and CEO)

Yeah, I just want to thank you, Ringu, for taking care of us as an operator. I want to thank everybody else for joining us and your continued support of Third Coast Bancshares, and we look forward to speaking to you next quarter. Thank you. Have a good evening.

Operator (participant)

Thank you. This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.