Huntington Bancshares Incorporated (NASDAQ:HBAN) Q1 2023 Earnings Call Transcript April 20, 2023
Huntington Bancshares Incorporated beats earnings expectations. Reported EPS is $0.39, expectations were $0.37.
Operator Greetings and welcome to the Huntington Bancshares’ 2023 First Quarter Earnings Conference Call. At this time all participants are in listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. I would now let’s turn the conference over to our host, Tim Sedabres, Director of Investor Relations. Thank you, you may begin.Tim Sedabres Thank you, operator. Welcome, everyone and good morning. Copies of the slides we will be reviewing today can be found in the Investor Relations section of our website www.huntington.com. As a reminder, this call is being recorded, and a replay will be available starting about one hour from the close of the call.
Our presenters today, are Steve Steinour, Chairman, President and CEO; and Zach Wasserman, Chief Financial Officer. Rich Pohle, Chief Credit Officer will join us for the Q&A. Earnings documents which include our forward-looking statements disclaimer and non-GAAP information are available on the Investor Relations section of our website. With that, let me now turn it over to Steve.Steve Steinour Thanks, Tim. Good morning, everyone and welcome. Thank you for joining the call today. We’re pleased to announce our first quarter results which Zach will detail later. Huntington is very well positioned. We operate a diversified franchise with disciplined risk management. Our approach to both our colleagues and customers is grounded in our purpose, to make people’s lives better, help businesses thrive and strengthen the communities we serve.
And during times like these, Huntington’s purpose is evident in how we look out for each other and serve as a source of strength for our customers and communities. Now onto Slide 4. These are the key messages I want to highlight to you. First, we have one of the strongest deposit franchises of any regional bank. We have a diversified base of primary bank customer relationships, which has been built over many years supported by our fairplay philosophy. We also have the leading percentage of insured deposits as of year-end. Second, we maintain a robust liquidity position consistent with our longstanding approach to conservative risk management practices. Third, our capital base is solid and building. Common equity tier one has increased for three quarters in a row, and we intend to continue to build to the high end of our range.Fourth, our credit reserves our top tier.
Credit quality continues to perform exceptionally well and remains a hallmark of our disciplined credit management. Fifth, we are dynamically managing through the current environment, bolstering capital and liquidity. We’re also incrementally optimizing the balance sheet and loan growth while continuing to proactively manage the expense base. Finally, we are well positioned operate through uncertainty with a focus on our long-term strategy and our commitment to top quartile returns. I believe Huntington is built to thrive during times like this, and ultimately to benefit and to capture opportunities as they arise. Moments of market disruption present opportunities to take market share, to win new customers and to hire great talent. We are confident in our strategy and strong position.Moving on to Slide 5, we entered this period of disruption in the best position the company has been since I’ve joined over a dozen years ago.
The reputation our colleagues have created a best-in-class customer service, results in customer confidence and trust in us. The 2023 JD Power award for Customer Satisfaction reflects our colleagues’ efforts. Grounded in our fairplay philosophy, we continue to acquire and deepen primary bank relationships, resulting in our granular and diversified deposit base. For many years, we focused on gathering deposits that are sticky operating accounts, and proactively placed larger deposits off balance sheet. We continue to invest across the franchise to drive deposit growth.We are also incrementally optimizing loan growth to generate the highest returns and ensure the capital we deploy is put to the highest and best use. And we remain focused on delivering the revenue synergies we previously shared, accelerating the growth of our fee businesses and deepening our customer relationships.
In regards to capital CET1 increased 19 basis points from the prior quarter to 9.55%. And we plan to build capital to the high end of our range over the course of 2023. Our credit reserves are top tier in the peer group at 1.9%. We will continue to be proactive in our expense management. In the first quarter, we completed a number of actions to support our ongoing efficiency programs such as the 31 branch consolidations, the voluntary retirement program, and our organizational realignment with reductions in personnel. And in addition to operation accelerate, we have a roadmap to deliver continued efficiencies going forward. Importantly, risk management is embedded within all our business lines. At Huntington, everyone owns risk, and we continue to operate within our aggregate moderate to low risk appetite.
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Finally, I want to reiterate, Huntington is built for times like this. We have a strong well diversified franchise with a distinctive brand and loyal customers. Our high-quality deposit base, robust liquidity, and solid credit metrics are the direct result of focused and disciplined execution over many years. We have an experienced management team supported by highly engaged colleagues executing on our strategy. And as you know, management is collectively a top 10 shareholder. And we are fully committed to driving top tier performance and growing shareholder value. Zach over to you to provide more detail on our financial performance.Zach Wasserman Thanks, Steve. And good morning, everyone. Slide 6 provides highlights of our first quarter results.
We reported GAAP earnings per common share of $0.39, and adjusted EPS of $0.38. Return on tangible common equity, or ROTCE came in at 23.1% for the quarter, adjusted for notable items. ROTCE was 22.7%. Further adjusting for AOCI, ROTCE was 17.8%. Pre-provision net revenue expanded 41% year-over-year to $844 million. Loan balances continued to grow, as total loans increased by $1.5 billion from the prior quarter. Liquidity coverage remains robust, with over $60 billion of available liquidity representing a peer leading coverage of uninsured deposits of 136%. Credit quality remains strong, with a net charge-offs of 19 basis points and allowance for credit losses of 1.9%.Turning to Slide 7. Average loan balances increased 1.3% quarter-over-quarter driven by commercial loans, which increased by $1.5 billion, or 2.2% from the prior quarter.
Primary components of this commercial growth included distribution finance, which increased $800 million tied to continued normalization of dealer inventory levels, as well as seasonality, with shipments of spring equipment arriving to dealers. Corporate and specialty banking increased $242 million, primarily driven by growth in mid-corp, healthcare and tech and telecom. Other assets financed businesses contributed growth of $216 million. Auto floorplan continued normalization, with balances higher by $214 million. Business banking also increased $92 million. In consumer, growth continued to be led by residential mortgage which increased by $316 million. Partially offsetting this growth were home equity balances, which declined by $159 million.
All other categories including RV Marine and auto declined by a collective $123 million.Turning to Slide 8. We continued to deliver average deposit growth in the first quarter. Balances were higher by $472 million, primarily driven by consumer, which more than offset lower commercial balances. On a year-over-year basis, average deposits increased by $3.2 billion or 2.3%.Turning to Slide 9. I want to share more details behind Huntington’s deposit franchise. Our deposit base represents a leading percentage of insured deposits at 69% as of Q1. Our deposit base is highly diversified with consumer deposits representing over half of our total deposits and the average consumer balance being $11,000.Turning to Slide 10. Complementing our diversified deposit base is the stability and growth of our deposits over time.
During last year, we consistently delivered deposit growth well above peer levels despite the backdrop of rising rates and quantitative tightening. Through year-end 2022, cumulative deposit growth was 2.4%, nearly 6 percentage points better than the peer median. Over the course of Q1, monthly average deposit balances were stable at approximately $146 billion. Within consumer deposits, balances have increased for four months in a row. Total commercial balances were modestly lower, consistent with expected seasonality. During March, in addition to seasonality, commercial customers also incrementally utilized our off-balance sheet liquidity solutions.Turning to Slide 11. We have a sophisticated approach to customer liquidity management that comprises both on balance sheet deposit products as well as off-balance sheet alternatives.
Over the past four years, we have invested substantially to build out these solutions to ensure we’re managing our customers’ overall liquidity needs. The enhanced liquidity solutions allow us to manage the full customer relationship with primary bank and operating deposits on balance sheet and utilizing our off-balance sheet solutions for investment or non-operational funds.Over the course of 2020 and 2021, we intentionally leveraged these off-balance sheet solutions in order to support our customers’ excess liquidity. This resulted in fewer surge deposits coming on sheet as well as less commercial deposit runoff during 2022 compared to the industry. On a year-over-year basis, our Commercial Banking segment on balance sheet deposits increased 11% and our off-balance sheet liquidity balances increased 54%.
During March, this approach yet again showed its value for both Huntington and our customers. We saw customers moving a modest amount of deposit balances into treasuries and other products, while we were able to maintain those primary operating accounts on our balance sheet.Of the total change in Commercial segment deposit balances between March 6 and the end of Q1, we estimate that approximately half the delta was attributable to normal seasonality, and the remainder was mainly the result of shifts into our off-balance sheet solutions. The bottom table highlights these movements as well as trends in the first two weeks of April. On-balance sheet deposits have returned to the March 6 level and off-balance sheet continues to grow.Turning to Slide 12.
Our liquidity capacity is robust. Our two primary sources of liquidity, cash and borrowing capacity at the FHLB and Federal Reserve represented $10 billion and $51 billion, respectively, at the end of Q1. As part of our ongoing liquidity management, we continually seek to maximize contingent borrowing capacity. And as of April 14, our total cash and available borrowing capacity increased to $65 billion. At quarter-end, this pool of available liquidity represented 136% of total uninsured deposits, a peer leading coverage.On to Slide 13. For the quarter, net interest income decreased by $53 million or 4% to $1.418 billion driven by lower day count and lower net interest margin. Year-over-year, NII increased $264 million or 23%. Net interest margin decreased 12 basis points on a GAAP basis from the prior quarter and decreased 11 basis points on a core basis, excluding accretion.
The reduction in GAAP NIM included 5 basis points from lower spreads, net of free funds, due to funding mix and marginally accelerated interest costs. It also included 5 basis points from the first substantive negative carry impact from our long-term downrate NIM hedging program and 3 basis points from higher cash levels.Slide 14 highlights our ongoing disciplined management of deposit costs and funding. For the current cycle to date, our beta on total cost of deposits was 25%. As we’ve noted, we expect deposit rates to continue to trend higher from here over the course of the rate cycle. Given the recent market environment, at the margin, we do expect a steeper near term trajectory.Turning to Slide 15. Our hedging program is dynamic, continually optimized and well diversified.
Our objectives are to protect capital in up-rate scenarios and to protect NIM in down-rate scenarios. During the first quarter, we added to the hedge portfolio with both of these objectives in mind. On the capital protection front, we added $1.6 billion in additional pay fixed swaps and $1.5 billion in forward starting pay fixed swaptions. Throughout the quarter, we were deliberate in managing the balance sheet to benefit from asset sensitivity. We also incrementally added to our hedge position to manage possible downside rate risks over the longer term as well as took actions to optimize the near-term cost of the program. During the quarter, we executed a net $400 million of received fixed swaps, terminated $4.9 billion of swaps and entered into $5 billion of floor spreads.
As we’ve noted before, our intention is to manage NIM in as tight a corridor as possible as we protect the downside and maintain upside potential if rates stay higher for longer.Turning to Slide 16. On the securities portfolio, we saw another step up in reported yields quarter-over-quarter. We benefited from higher reinvestment yields as well as our hedges to protect capital. From a portfolio strategy perspective, we expect to continue to add to the allocation of shorter duration exposures to benefit from the inverted yield curve and further enhance the liquidity profile of the portfolio. You will note that fair value marks at the end of March were lower than year-end, both in the AFS and HTM portfolios, as market interest rates moved lower sequentially.Importantly, we have also shown the $700 million total positive fair value mark from our pay fixed hedges, which are intended to protect capital.Moving on to Slide 17.
Non-interest income was $512 million, up $13 million from last quarter. These results include the $57 million gain on the sale of our retirement plan services business during the quarter. Excluding that gain, adjusted non-interest income was $455 million. This result was somewhat lower than the guidance we provided in early March, driven by lower capital markets revenues given the disruptions at the end of Q1. The first quarter is generally a seasonal low for fee revenues. As we’ve noted previously, we see Q1, excluding the RPS sale, being the low point and for fees to grow over the course of the year, driven by solid underlying performance in our key areas of strategic focus capital markets, payments and wealth management.Moving on to Slide 18.
GAAP noninterest expense increased by $9 million. Adjusted for notable items, core expenses decreased by $18 million, driven by lower personnel expense, primarily as a result of reduced incentives and revenue driven compensation. We’re proactively managing expenses and have taken actions over the last several quarters to orient to a low level of expense growth in order to deliver positive operating leverage and self-fund strategic investments.Slide 19 recaps our capital position. Common equity Tier 1 increased to 9.55% and has increased sequentially for three quarters. OCI impacts to common equity Tier 1 resulted in an adjusted CET1 ratio of 7.6%. As a reminder, the reported regulatory capital framework does not include OCI impacts in the capital calculation.Our tangible common equity ratio, or TCE, increased 22 basis points to 5.7%.
Note that we were holding higher cash balances at the end of Q1, which reduced the TCE ratio by 13 basis points. Adjusting for AOCI, our TCE ratio was 7.27%.Tangible book value per share increased by 7% from the prior quarter to $7.32. Adjusting for AOCI, tangible book value increased to $9.23, and has increased for the past four quarters. Our capital management strategy for the balance of 2023 will result in expanding capital over the course of the year, while maintaining our top priority to fund high-return loan growth. We intend to grow CET1 to the top end of our 9% to 10% operating range by the end of the year. We believe this is a prudent approach given the dynamic environment. Based on our expectation for continued loan growth, we do not expect to utilize the share repurchase program during 2023.Turning to Slide 20.
Our capital plus reserves is top quartile in the peer group and gives us substantial total loss absorption capacity. On Slide 21, credit quality continues to perform very well. As mentioned, net charge-offs were 19 basis points for the quarter. This was higher than last quarter by 2 basis points and up 12 basis points from the prior year as charge-offs continue to normalize. Non-performing assets declined from the previous quarter and have reduced for seven consecutive quarters. Allowance for credit losses was flat at 1.9% of total loans.Turning to Slide 22. We have provided incremental disclosures on our commercial real estate balances. This portfolio is well diversified and at 14% of total loans is in line with the peer group with no outsized exposures.
The majority of the property types are multifamily and industrial. Over the last two years, we have grown our CRE book at a slower pace relative to the industry and peers. We remain conservative in our credit approach to CRE with rigorous client selection. Total office CRE comprises less than 2% of total loans, and the majority are suburban and multi-tenant properties. Reserve coverage on our total CRE portfolio is 3% and the office portfolio is 8%.Let’s turn to our 2023 outlook on Slide 23. As we have discussed, we analyze multiple potential economic scenarios to project financial performance and develop management action plans. We also remain dynamic in the current environment as we execute on our strategies. Our guidance is anchored on a baseline scenario that is informed by the consensus economic outlook.
We have also based our guidance on a range of interest rate scenarios, bounded on the low end using the forward curve as of the end of March to one at the higher end, where rates are higher for longer with Fed funds remaining at approximately today’s level over the rest of the year. On loans, our outlook range continues to be growth between 5% and 7% on an average basis. And as before, we expect this growth to be led by commercial with more modest growth in consumer.As we entered the year, we were trending to the middle to higher portion of that growth range. Given the market disruption and our incremental focus on optimizing loan growth for the highest returns on capital, we now expect to be in the lower half to midpoint of this range. On deposits, we are guided by our core strategy of acquiring and deepening primary bank relationships.
We’re narrowing our outlook with a slightly lower top end of the range and still expect to grow average deposits between 1% and 3%. However, the composition of deposit growth from here, we now expect to be primarily consumer-led with relatively less commercial growth.Net interest income is now expected to increase between 6% and 9%. This is driven by slightly lower loan growth and marginally higher funding costs. Non-interest income on a core full year basis is expected to be flat to down 2%. The updated guidance reflects modestly lower expected growth in capital markets fees and includes the go-forward impact of the RPS business sale. As noted, we expect Q1 to be the low point for fees, growing over the course of the year, led by capital markets, payments and Wealth Management.On expenses, we are proactively managing with a posture to keep underlying core expense growth at a very low level.
We’re benefiting from our ongoing efficiency initiatives, such as Operation Accelerate, branch optimization, the voluntary retirement program and the organizational realignment, providing the capacity to self-fund sustained investment in our key growth initiatives.Given a somewhat lower revenue outlook, we are taking actions to incrementally reduce the expense growth in 2023. For the full year, we now expect core expense growth between 1% and 3%, plus the incremental expenses from the full year run-rate of Capstone and Torana and the increased FDIC insurance expense. Overall, our low expense growth, coupled with expanded revenues, is expected to support another year of positive operating leverage. We continue to expect net charge-offs will be on the low end of our long-term through-the-cycle range of 25 to 45 basis points.Finally, turning to Slide 24.
As you heard from Steve, the foundation we have built at Huntington over the last decade has created an institution that is well prepared for this environment. We will leverage the strength of our deposit base. We’re focused on growing capital and maintaining robust liquidity. We remain disciplined in our credit posture, and we’re executing our core strategy. The work we have done to build the franchise positions Huntington to outperform and be ready to opportunistically seize on pockets of growth. We will remain disciplined and dynamic in our management approach as we continue to generate long-term value for our shareholders.With that, we will conclude our prepared remarks and move to Q&A. Tim, over to you.Tim Sedabres Thanks, Zach. Operator, we will now take questions.
We ask that as a courtesy of peers, each person ask only one question and one related follow-up. And if that person has additional questions, he or she can add themselves back in the queue. Thank you.
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Question-and-Answer Session
Operator: Thank you. And at this time, we will conduct our question-and-answer session. [Operator Instructions] First question comes from Manan Gosalia with Morgan Stanley. Please state your question. Manan Gosalia Hey, good morning. Tim Sedabres Good morning, Manan. Manan Gosalia As I look through your deposit flows for the quarter, you’ve clearly done better than peers, whether it’s on total deposits or even just non-interest-bearing deposits. Can you break out what you saw in the background? Was there a lot of movement with new accounts coming in and some of those existing commercial clients moving off balance sheet?
And if so, can you talk about how sticky you think some of those new account openings are?Zach Wasserman Thanks, Manan. This is Zach. I’ll take that question, and it’s a good one. Overall, what we saw in our deposit base during the quarter was tremendous stability and that continued, not only through the month of March, but into early April. And we’ve tried to provide some incremental disclosures around that, so that you could get the visibility. And for us, it’s not surprising as we’ve noted quite a bit. It’s very granular, very diversified and, overall, it didn’t happen by accident, it was a function of a really long strategy we have to focus on primary bank relationships, as you know. And to develop this commercial off balance sheet capability that we described in the prepared remarks.To get to your question, in particular, what we saw generally, I would note, by the way, that when you’re looking at balances on a day-by-day basis as we’ve provided them in that disclosure, you have to take them with a note of caution.
It really matters what day of the week what week of the month, et cetera payroll days and tax payments, et cetera. Generally, we expect the end of March to be a seasonal low for commercial. And so most of the movement, around half the move we saw in commercial from, let’s say, the average of March down to the end of March was really just BAU movements of commercial clients largely paying out payroll. The other half was largely movements of deposits off balance sheet as very marginal amount of customers used some of those off-balance sheet solutions to leverage that product set. Interestingly, what you can see, we provide this disclosure out into the first two weeks of April is that essentially completely came back in terms of the overall balance of commercial deposits.
So it’s very stable net, virtually no movement.On the question of what we saw ins and outs, we, of course, saw some acquisition and we continue to acquire in every segment that we’re operating in, consumers, continue to acquire [ph] business banking and commercial as well. And so we feel good about that kind of long-term program, which is one of the things that underlies our continued expectation for its positive growth throughout the rest of this year, just continuing to stay on strategy of acquiring and deepening primary banking relationships.Manan Gosalia Great. And then just separately, can you talk about the funding and liquidity side of the balance sheet? So despite the low level of deposit outflow, I think you built up some cash and liquidity levels by taking on more wholesale funding.
So how should we think about that as we get through the rest of this year?Zach Wasserman Yeah. In terms of overall funding mix, we’ve talked about this a number of times in prior quarters. We really like where we are coming to this rate cycle from a perspective of lots of balanced options to fund the business. We’re growing loans at this point between 5% and 7% and deposits are between 1% and 3%, around 2%, call it, the midpoint of that range. So that allows us to also leverage other sources of funding to overall fund the balance sheet, and we’re in a great position to be able to do that.I will tell you, internally, we really like that. It creates quite a bit of attention in the system where the next unit of of funding is coming and really that is optimized from an economic perspective.
And so our expectation is to continue to essentially add to each of those funding categories over the foreseeable future while still maintaining a level that’s comparatively quite good relative to history for us. So that’s the overall plan. On the topic of liquidity, I would just note a couple of things. This is a key risk that the company has been focused on managing for more than a decade. We purposely create exceptionally robust pools of convention liquidity to cover any potential issue. I think we noted in the prepared — in the deck some of the key sources of, and also noted that we continue to, over time, add to them.I will tell you that one of the statistics that’s in the document today highlights $65 billion of contingent cash and borrowing capacity as of last Friday.
I’m pleased to report that as of this morning, based on incremental efforts we’ve done now $84 million, which, in total, represents 187% of relative to our term deposits. So exceptionally strong liquidity profile, and, as I said, kind of very balanced funding mix.Manan Gosalia Great. Thank you. Operator Our next question comes from John Pancari with Evercore. Please state your question.John Pancari Good morning. You mentioned the actions you’ve taken incrementally to lower expense growth across the firm. Are those actions factored into your 1% to 3% expense guidance? And also what are those actions involved? Thanks.Zach Wasserman Yeah. It’s a great question, John. This is Zach. I’ll elaborate on that. So the short answer to your question is yes.