Zions Bancorporation N.A (ZION) — Q4 2023 Earnings Call Transcript

Thank you, Camilla, and good evening. We welcome you to this conference call to discuss our 2023 fourth quarter earnings. My name is Shannon Drage, the Director of Investor Relations. I would like to remind you that during this call, we will be making forward-looking statements, although actual results may differ materially. We encourage you to review the disclaimer in the press release or Slide 2 of the presentation, dealing with forward-looking information and the presentation of non-GAAP measures, which applies equally to statements made during this call. A copy of the earnings release as well as the presentation are available at zionsbancorporation.com. For our agenda today, Chairman and Chief Executive Officer, Harris Simmons, will provide opening remarks. Following Harris' comments, Paul Burdiss, our Chief Financial Officer, will review our financial results. Also with us today are Scott McLean, President and Chief Operating Officer; Chris Kyriakakis, Chief Risk Officer; and Derek Steward, Chief Credit Officer. After our prepared remarks, we will hold a question-and-answer session. This call is scheduled for one hour. I will now turn the time over to Harris Simmons.

Thanks very much, Shannon, and we welcome you all to our call this afternoon. As Shannon mentioned, Chris Kyriakakis is joining our call today as our new Chief Risk Officer, and we want to welcome him. Chris was formerly our Chief Audit Executive, and he is replacing Keith Maio, who recently retired after 32 years of phenomenal service with Zions in a variety of senior positions. I'd like to start with comments on Slide 3, which includes some themes that are particularly applicable to Zions. Our financial performance this quarter reflects the unusual circumstances of the past year, as events last spring were the catalyst for an acceleration of deposit betas across the industry. We've been proactive in managing our balance sheet, making adjustments to our hedging strategy, and working with clients to bring back on-balance-sheet deposits that we'd steered to off-balance-sheet money market funds in times of surplus liquidity. We've demonstrated our ability to effectively manage interest rate and liquidity risk in a very dynamic environment. In the fourth quarter, we've seen the deposit mix stabilize and deposit costs start to level out. Net interest margin and net interest income were stable in the quarter. We continue to have a higher concentration of more costly funding sources than is typical for us. In the near term, we believe reducing our reliance on funding priced at or near wholesale rates, combined with continued deposit pricing discipline, presents a meaningful opportunity to improve revenue performance. In the medium to long term, we remain focused on improving shareholder returns by growing profitable small-business and commercial customer relationships, emphasizing growth in our capital markets and wealth management businesses, and continuing to move away from single-product, loan-only, and other less profitable relationships. In 2023, we exited two national lending businesses that produced few deposits and were experiencing declining levels of profitability. We changed our approach to mortgage lending as part of our focus on improved profitability. We continue to invest in the business and in enabling technologies to deliver the products and services that our customers need and which enhance the customer experience, all while managing expense growth to nominal levels. We have an established track record for managing risk and underwriting credit with better performance than pure peers. We believe that the combination of these efforts will result in improved financial outcomes for our investors in years ahead. Turning to Slide 4, we've included key financial performance highlights for the quarter and for the full year. We reported a period-end loan balance increase of 3.8% for the full year and 1.6% in the current quarter. Customer deposit balances were flat for the full year and were up 2.4% in the quarter. Our loan-to-deposit ratio was 77%. Net charge-offs as a percent of loans were just 6 basis points both in the quarter and for the full year, down from an already low 8 basis points reported in the prior year. Our common equity Tier 1 ratio was 10.3% compared to 9.8% in the prior year. Moving to Slide 5, linked-quarter diluted earnings per share was down $0.35 to $0.78 per share, on net earnings of $116 million, due to the impact of the FDIC special assessments combined with lower non-interest income. Turning to Slide 6, our fourth quarter adjusted pre-provision net revenue was $262 million, down from $272 million. The linked-quarter decline was primarily due to lower non-interest revenue. Versus the year-ago quarter, PPNR was down 38%, as the increase in our cost of funds exceeded the increase in earning asset yields. So with that high-level overview, I'm going to ask Paul Burdiss, our Chief Financial Officer, to provide additional detail related to our financial performance.

Thank you, Harris. Good evening, everyone, and thank you for joining. I'll begin with a discussion of the components of pre-provision net revenue. Over three-quarters of our revenue is from the balance sheet through net interest income. Slide 7 includes our overview of net interest income and the net interest margin. The chart shows the recent five-quarter trend for both. Net interest income on the bars and the net interest margin in the white boxes were consistent with the prior quarter as the repricing of earning assets kept pace with rising funding costs. Additional detail on changes in the net interest margin is outlined on Slide 8. On the left-hand side of this page, we've provided a linked-quarter waterfall chart outlining the changes in key components of the net interest margin. The 14 basis point adverse impact associated with deposits, including changes in both rate and volume, was offset by the positive impact of loan repricing and higher money market and securities yields. Non-interest-bearing sources of funds continued to serve as a significant contributor to balance sheet profitability. The right-hand chart on this slide shows the net interest margin comparison to the prior-year quarter. Higher rates were reflected in earning asset yields, which contributed an additional 106 basis points to the net interest margin. This was more than offset by increased deposit and borrowing costs, which, when combined with the increased value of non-interest-bearing funding, adversely impacted the net interest margin by 168 basis points. Overall, the net interest margin declined by 62 basis points versus the prior-year quarter. Moving to non-interest income and revenue on Slide 9, customer-related non-interest income was $150 million, a decrease of 4% versus the prior quarter, due to lower loan servicing fees primarily attributable to the sale of certain mortgage servicing rights recognized in the third quarter. The remainder of customer-related fees were relatively in line with the prior year as the year-over-year decrease in capital markets revenue was offset by improved commercial account fees. Within capital markets, customer interest rate swap-related revenue in 2023 was adversely impacted by loan demand and the interest rate environment. This headwind was largely offset as investment in new product capabilities has resulted in growth in other sources of capital markets revenue. We remain confident that we are poised for meaningful growth in capital markets activity and revenue. Our outlook for customer-related non-interest income for the full year of 2024 is moderately increasing relative to the full year 2023. The chart on the right side of this page includes adjusted revenue, which is the revenue included in adjusted pre-provision net revenue and is used in our efficiency ratio calculation. Adjusted revenue decreased 16% from a year ago and decreased by 2% versus the third quarter due to the factors noted previously. Adjusted non-interest expense shown in the lighter blue bars on Slide 10 was essentially flat to the prior quarter at $489 million. Reported expenses at $581 million increased by $85 million, due to the $90 million in FDIC special assessment costs recognized in the quarter. Our outlook for adjusted non-interest expense is slightly increasing in 2024 relative to 2023. Risks and opportunities associated with this outlook include our ability to manage technology and employment costs. Slide 11 highlights trends in our average loans and deposits over the past year. On the left side, you can see that average loans increased slightly in the current quarter. As loan demand remains soft, our expectation is that loans will be stable at year-end '24 when compared to year-end '23. Now turning to deposits on the right side of this page, average deposit balances in the fourth quarter increased slightly, as growth in customer deposits was offset by declines in brokered deposits. The cost of deposits shown in the white boxes increased during the quarter to 206 basis points from 192 basis points in the prior quarter. As measured against the fourth quarter of 2021, the repricing beta on total deposits, including brokered deposits and based on average deposit rates in the fourth quarter, was 39% and the repricing beta for interest-bearing deposits was 60%. Slide 12 includes a more comprehensive view of funding sources and total funding trends. The left side of the chart includes ending balance trends. Short-term borrowings have decreased $8 billion since the first quarter of 2023, as customer deposits have grown and earning assets have declined. On the right side, average balances for our key funding categories are shown along with the total cost of funding. As seen on this chart, the rate of increase in total funding cost at 15 basis points in the current quarter has continued to decline compared to the prior three quarters.

It’s Scott. I don't think I would. I think our feeling is that the economy is going to be moderately muted throughout the year, which would actually be a positive thing compared to what we all thought six to nine months ago. So you would think that as we get towards the end of the year, we'll start to see loan growth in the economy probably pick up. But we had pretty good C&I growth last year despite some of the other movements, and we may be surprised on the upside there.

Good afternoon. Just on the balance sheet commentary that you gave, on the loan growth guidance of stable balances on an end-of-period basis, can you maybe talk about what the trajectory could look like in terms of where you expect growth and what's offsetting that, that keeps you pretty conservative there in terms of flattish balances for the year? Thanks.

I would like to mention that in the residential portfolio, particularly the 1-4 family segment, we have experienced growth. This growth is partly due to a product we refer to as a one-time close product, which involves construction loans that are currently being funded and completed. However, I anticipate that this growth will slow down somewhat. We have tightened our parameters to ensure that it does not increase too rapidly in comparison to the overall portfolio, as well as limiting the number of single-product relationships we maintain in that program. I expect this will likely lead to a decrease in growth. On a different note, the economy seems to be in decent shape currently. Conversations with our lenders suggest that there is uncertainty about what the economy will look like in the next three months, but overall, there is a sense of cautious optimism for the year ahead. We will keep a close eye on developments.

Well, the good news is we did see meaningful deposit growth here as we moved into the end of the year. And I would note that both on-balance-sheet deposits and customer sweep balances, effectively customer earnings that we're sweeping off-balance-sheet for them, both increased in the quarter. So those are good things. As we look ahead, certainly in what we've seen over the course of the last couple of quarters, deposit rate is increasingly important, particularly for rate-sensitive money. As we move through the year, we're going to be carefully balancing the need for funds and the rate we pay on those funds with the need to continue to demonstrate improvement in our net interest margin. As it relates to where non-interest-bearing demand is trending, I think we saw some green shoots in terms of run-off in the current quarter, as non-interest-bearing demand attrition appeared to slow from what we've seen historically. So it's very difficult to predict sort of precisely where that goes, but I would note that my expectation is we will continue to see some non-interest-bearing deposit attrition just because of the differential in interest rates between zero and the prevailing market rate. So that trend has slowed; it feels like it will continue to slow. But I'm not predicting an end certainly in the near term.

The loss and future losses are difficult to anticipate in this context. However, we are observing ongoing challenges in the office portfolio, which represents a small part of our total loans at less than 3%. We have not encountered any new non-accruals in this quarter. In contrast, the multifamily portfolio has experienced some increase in criticized assets, driven by three main factors. Firstly, there are delays in construction, which are being addressed with additional equity from our sponsors. Secondly, rising interest rates are also a contributing issue. Lastly, we are seeing a slowdown in the pace of lease-ups for the multifamily portfolio. While they are still able to secure rents, in some instances, concessions are being offered, resulting in longer lease-up periods than initially expected. Overall, we believe it will just take extra time to reach the desired outcomes, and our sponsors are continuing to provide support as we navigate these trends.

Okay. Great. Thanks, Harris. And then just separately on the other side of the balance sheet, just maybe if you can give us your thoughts on what deposit growth could look like for the year as you look at the trends there? And then maybe also just a bit on around where do you see your non-interest-bearing mix stabilizing, it dropped down a bit to about 36% of deposits as of this quarter? So I'm curious where do you see that bottoming here? Thanks.

Well, as I said, the good news is we did see deposit growth — meaningful deposit growth here as we moved into the end of the year.

I’ll start with that. Our outlook is a reflection of what we're hearing kind of on the ground from our frontline relationship managers. It feels like demand is softening, and ultimately that's kind of what's baked into our outlook. When you get into the components of the portfolio, those are driven as you know by market conditions. For example, as the commercial real estate market — the capital markets associated part of commercial real estate, as that becomes less of a takeout for commercial real estate loans, you may see those accumulate on our balance sheet as construction loans work to completion while C&I — traditional C&I, for example, may decline with economic weakness.