Fifth Third Bancorp Q4 2021 Earnings Call Transcript

Quartr
Provided by Quartr
January 19, 2022

There are 12 speakers on the call.

Operator

Good day. Thank you for standing by and welcome to the Cystor Bancorp 4th Quarter 2021 Earnings Conference Call. At this time, all participants are in a listen only mode. After the speakers' presentation, there will be a question and answer session. Thank you.

Operator

I would now like to hand the conference over to your speaker today, Mr. Chris Dahl, Director of Investor Relations. Sir, please go ahead.

Speaker 1

Thank you, operator. Good morning, everyone, and thank you for joining us. Today, we'll be discussing our financial results for the Q4 of 2021. Please review the cautionary statements in our materials, which can be found in our earnings release and presentation. These materials contain reconciliations of non GAAP measures, along with information pertaining to the use of non GAAP measures, as well as forward looking statements about 5th Third's performance.

Speaker 1

We undertake no obligation to update any such forward looking statements after the date of this call. This morning, I'm joined by CEO, Greg Carmichael President, Tim Spence CFO, Jamie Leonard and Chief Credit Officer, Richard Stein. Following prepared remarks by Greg and Jamie, we will open the call up for questions. Let me turn over the call now to Greg for his comments.

Speaker 2

Thanks, Chris, and thank all you for joining us this morning. Earlier today, we reported full year net income $2,800,000,000 or $3.73 per share. We delivered strong financial results throughout the year of fully supporting our customers, our communities and our employees. We generated full year adjusted ROTCE excluding AOCI of 19%. Additionally, excluding the provision benefit in excess of charge offs, our ROTCE Exceeded 16% and improved more than 130 basis points from last year, driven by record franchise results throughout the franchise.

Speaker 2

We generated record revenue of nearly $8,000,000,000 in 2021, which increased 4% compared to 2020, Highlighted by strength in commercial, retail and wealth and asset management. Our performance was led by record adjusted fee revenue, Which increased 8%. Net interest income was stable compared to last year despite the continued environmental headwinds as we have been disciplined deploying excess cash. Full year adjusted expenses increased just 2.5% compared to last year, reflecting disciplined expense management throughout the company. As a result of our strong financial performance, we achieved positive operating leverage excluding security gains and losses And generated adjusted efficiency ratio below 60%.

Speaker 2

Credit card remains strong with historically low full year net charge offs of just 16 basis points. Additionally, non performing loans and criticized assets continue to improve throughout the year, Including the Q4, our credit results demonstrate our disciplined client selection, conservative underwriting and continued benefits from fiscal and monetary government programs. For the Q4, we reported net income of $662,000,000 or $0.90 per share. Our reported EPS included a negative $0.03 impact from the items shown on Page 2 of our release. Excluding these items, adjusted 4th quarter earnings were $0.93 per share.

Speaker 2

Our quarterly financial results reflected strong momentum in most of our businesses, which led to improved revenues compared to the Q3. We generated record commercial banking revenue, record treasury management revenue and record wealth and asset management revenue in the quarter. We expect the positive momentum in our businesses to carry forward into 2022 and beyond. Our commercial business, record loan production of $8,200,000,000 increased approximately 50% sequentially with record performances in both corporate banking and middle market. Despite the ongoing challenges we're hearing from our customers, Including supply chain constraints and labor shortages, production was broad based across our regions and verticals.

Speaker 2

From a regional middle market perspective, we generated strong production this year in several markets, including Chicago, The Carolinas, Indiana, Georgia, and our expansion markets. From an industry vertical perspective, healthcare, renewables, Retail, Technology and Financial Institutions all continued to outperform. As a result of our record production and record new quality relationships, We generated C and I loan growth, excluding PPP, of 7% on an average basis or 11% on a period end basis compared to last quarter. The acceleration of commercial loan growth at the end of 2021, our strong pipeline, new commitment growth, Production anticipated from Provide and continued investments in capabilities and talent will all support accelerated loan growth in 2022. In our retail business, We once again generated consistent peer leading consumer household growth in excess of 3% year over year, highlighted by our Chicago and Southeast markets.

Speaker 2

We continue to add households in every region, reflecting the ongoing success of momentum banking, as well as our branch expansion and digital initiatives. Our success throughout our retail business comes down to 3 factors. First, we are generating smart skill in our local markets. This quarter, we opened 18 banking centers in our key Southeast MSAs, while consolidating 4 locations throughout our footprint. We have also closed an additional 40 locations in the month of January, primarily in legacy markets.

Speaker 2

We will continue to leverage our geo Facial analytics to optimize our overall branch network will take into account evolving customer preferences. We continue to target a branch network allocation of approximately 35% in the Southeast by 2025. 2nd, We offer differentiated products and services like Momentum Banking, which includes features that enable customers to avoid overdraft fees and get access to short term liquidity when needed. I'd like to point out with respect to punitive fees, we have been the lowest among peers with significant consumer banking operations for several quarters. And 3rd, we are delivering an outstanding customer experience as shown by leading third party surveys.

Speaker 2

We have improved from the bottom quartile 5 years ago to top quartile today. We are recognized as the number one bank out of the top 25 Thanks for taking care of our customers during the pandemic. Our balance sheet and earnings power remained very strong. Last night, to support continued acceleration of our growth and profitability, We announced the acquisition of Dividend Finance, a leading fintech point of sale consumer lender providing solutions for the highly attractive and growing Renewable Energy Industry. They have strong relationships with a robust contract network, offer sales and project management solutions through a state of the art technology platform.

Speaker 2

They have a customer footprint focused on prime and super prime borrowers. They have a coast to coast footprint with targeted growth initiatives in the Southeast. By financing consumer renewable energy solutions combined with our existing leadership in providing renewable solutions to commercial clients Since 2012, we are supporting the country's transition to a more sustainable economy and furthering our ESG leadership position among peers. As the only bank among peers to earn a leadership score from CDP for 3 consecutive years, we are intensely focused on leading the transition to a sustainable future. Our focus has been recognized by several prominent ESG providers, including MSCI, which recently gave us a 3 notch rating upgrade.

Speaker 2

Whether it's our sustained peer leading household growth, top quartile key metrics, balance sheet management or strong diversified fee revenues, We have established a track record of doing what we say we are going to do. Our execution ultimately produces superior, consistent and sustainable financial performance. Across all of our businesses, our strategic priorities are unchanged. We remain focused on leveraging technology to accelerate our digital transformation, Investing to drive growth and profitability, expanding market share in key geographies and maintaining discipline throughout the Before turning it over to Jamie to discuss our financial results and our current outlook, I'd like to once again thank our employees. I very much appreciate The way you have continued to raise it to the occasion to support our customers, communities and each other.

Speaker 2

It's because of our frontline employees that we were able to keep With a 99% of our branches opened since the onset of the pandemic, we gave a special bonus to these employees on the quarter in recognition of their extraordinary and ongoing efforts to provide essential banking services for our customers. This marks the 2nd time during the pandemic that we have recognized the work of our frontline employees for a special bonus. In summary, we believe our strong and highly asset sensitive balance sheet, diversified in revenues continued focus on disciplined management throughout the company will serve us well this year beyond. We expect to generate positive operating leverage again for the full year 2022 without adjusting for PPP or other known headwinds. We remain focused on growing strong relationships and managing the balance sheet With a through the cycle perspective to generate sustainable long term value for our stakeholders and maintain our position as a top performing regional bank.

Speaker 2

With that, I'll turn to Jamie to discuss our financial results and our current outlook.

Speaker 3

Thank you, Greg, and thank all of you for joining us today. Our strong quarterly financial results reflect focused execution throughout the Bank. The reported earnings included a negative 0 point from the 2 items noted in the release. We generated solid revenue growth, which resulted in record fee income, combined with another quarter of strong credit quality. As a result, we produced an adjusted ROTCE, excluding AOCI, of over 18%.

Speaker 3

Improvements in credit quality resulted in a $85,000,000 release to our credit reserves and an ACL ratio of 185 basis points compared to 200 basis points last quarter. Combined with another quarter of historically low net charge offs, We had a $47,000,000 net benefit to the provision for credit losses. Moving to the income statement. Net interest income of approximately $1,200,000,000 increased 1% sequentially, reflecting C and I loan growth, dollars 10,000,000 in seasonal mutual fund dividends and $18,000,000 in prepayment penalties received in the investment portfolio as well as a reduction in long term debt. These items were partially offset by lower loan yields and a decline in PPP related income, which was $36,000,000 this quarter Compared to $47,000,000 in the prior quarter.

Speaker 3

Excluding PPP, NII increased $19,000,000 or 2% sequentially. On the funding side, we reduced our total interest bearing liabilities cost 3 basis points this quarter. Compared to the prior quarter, Reported net interest margin decreased 4 basis points, reflecting a $2,600,000,000 increase in interest bearing cash And lower loan yields, partially offset by prepayment penalties and mutual fund dividends from our investment portfolio. Excluding the impact of excess cash, NIM was flat sequentially. Total reported non interest income increased 1% compared to the year ago quarter.

Speaker 3

As we discussed in early December, reported results included negative valuation marks totaling $22,000,000 attributable to a $5,000,000 negative MSR valuation as well as a $17,000,000 FinTech investment unrealized loss recorded in securities losses that occurred since its October IPO. Similar to our previous holdings of public companies, We will exit our position at the appropriate time. Adjusted non interest income results exclude the impact of security gains and losses, the Visa swap, as well as prior period business disposition gains and losses. Adjusted non interest income increased 4% sequentially, driven by another quarter of record commercial banking revenue. We generated record M and A advisory fees, notably in our healthcare vertical, reflecting successful outcomes from our Coker and H2C teams, combined with strong business lending and syndication revenue.

Speaker 3

These items were partially offset by lower corporate bond We also generated solid fee revenue growth in treasury management, card and processing and wealth and asset management, Where we generated record net AUM inflows in both the Q4 and the full year. We were recently recognized as one of the world's best Private Banks for the 3rd consecutive year by Global Finance Magazine and our results reflected. Additionally, mortgage banking revenue decreased $51,000,000 compared to the 3rd quarter, which included a $12,000,000 unfavorable impact from our decision to retain $350,000,000 of retail production during the quarter. Compared to the year ago quarter, adjusted non interest income increased 2% with improvement in every single fee caption, Reflecting both the underlying strength in our lines of business as well as the robust economic rebound over the past year. Non interest income represented 40% of total revenue in the 4th quarter.

Speaker 3

Reported non interest expenses decreased 2% compared to the year ago quarter, primarily driven by lower occupancy expense as well as lower processing expense reflecting contract renegotiations. Adjusted expenses increased 2%, driven by higher performance based compensation, reflecting strong business results from record AUM inflows and commercial loan production, elevated medical benefits due to the pandemic, loan servicing expenses and Continued Technology Investments. Our expenses this quarter included mark to market impacts associated with non qualified compensation of $10,000,000 compared to less than $1,000,000 last quarter. For the full year, Total adjusted fees increased 8% compared to just 2.5% expense growth. Commercial Banking revenue increased 21%, card and processing revenue increased 14%, wealth and asset management revenue increased 13% and TM revenue increased 9%, offset by a $28,000,000 reduction from lower TRA income and a 16% decline in mortgage banking.

Speaker 3

On the expense side, the largest contributor of the growth was elevated performance based compensation, Technology Investments and Loan Servicing Expenses. These items were partially offset by the actions we took about a year ago to streamline the organization, including process reengineering, vendor renegotiations and divestitures of non core businesses such as Property and Casualty Insurance, HSA Deposits and 401 recordkeeping. Moving to the balance sheet. Total average portfolio loans and leases increased 1% sequentially, including the PPP headwind. Excluding PPP, portfolio loans and leases increased 3% on an average basis and increased 5% on a period end basis.

Speaker 3

Average total consumer portfolio loans increased 1% compared to the prior quarter This continued strength in auto was partially offset by declines in home equity and other consumer loan balances. Average commercial portfolio loans and leases increased 2% compared to the prior quarter, reflecting growth in C and I loans. Excluding PPP, average commercial loans increased 4%, with C and I loans up 7%. As Greg mentioned, commercial loan production was robust across the board, up nearly 50% compared to the prior quarter, Reflecting strong corporate and middle market banking production, which was well diversified geographically. As a result, period end C and I loans excluding PPP increased 11% sequentially.

Speaker 3

Revolver utilization of 33% increased 2 compared to the prior quarter. Average CRE loans were down 3% sequentially, with lower balances in mortgage and construction, driven by elevated payoffs in areas most impacted by the pandemic. As we have discussed before, we continue to have the lowest CRE concentration as a percentage of total capital compared to peers. Given the rate environment towards the end of the 4th quarter, we began investing a small portion of our excess cash with the average securities portfolio balances increasing 1% sequentially. Average other short term investments, which includes our interest bearing cash, remained elevated, Reflecting continued growth in core deposits.

Speaker 3

Compared to the prior quarter, commercial transaction deposits increased 5% and consumer transaction deposits increased 2%. Moving to credit. As Greg mentioned, our credit performance this quarter was once again strong, With 4th quarter net charge offs remaining historically low. Nonperforming assets declined 6% Sequentially, with the NPA ratio declining 5 basis points. Criticized assets declined 13% sequentially, Reflecting a significant improvement from COVID high impact industries.

Speaker 3

Additionally, criticized assets declined in virtually every region and vertical And also improved in our leverage loan portfolio. From a product standpoint, we continue to closely monitor CRE, Including office and hospitality exposures, given the ongoing effects of the pandemic. Moving to the ACL. Our baseline scenario assumes the labor market remains stable with unemployment ending our 3 year reasonable and supportable period at around 3 point percent. We did not change our scenario weights of 60% to the base and 20% to the upside and downside scenarios given the continued uncertainty during the pandemic.

Speaker 3

Our ACL release this quarter came primarily from commercial, reflecting the improved risk profile of the portfolio. If the ACL were based 100% on the downside scenario, the ACL would be $960,000,000 higher. If the ACL were 100 percent weighted to the baseline scenario, the reserve would be $213,000,000 lower. While the economic backdrop and our base case expectations point to continued strength in the economy, there are several key risks factored into our downside scenario, which could play out given the uncertain environment. In addition to COVID, we We continue to monitor the economic and lending implications of the supply chain and labor market constraints that currently exist.

Speaker 3

Our December 31st allowance incorporates our best estimate of the economic environment. Moving to capital. Our capital levels remained strong with the CET1 ratio ending the quarter at 9.5 percent. During the quarter, we completed $316,000,000 in share repurchases as part of our capital plan, which reduced our share count by 7,300,000 shares. Now that we have reached our 9.5% CET1 goal, We are returning to our 2019 CET1 target of 9% based on our improved credit risk profile and the economic outlook.

Speaker 3

It is worth noting that combining regulatory capital, credit reserves and unrealized gains, we have one of the highest overall loss absorbency rates among peers. As Greg mentioned, last night we announced the strategic acquisition of Dividend Finance. Strategically, Dividend furthers our Indirect consumer point of sale capabilities with a tech forward platform. Dividend pioneered the financing model, which improves economic outcomes for customers and contractors. This helps accelerate dividends growth in the solar industry, which is expected to continue growing at a double digit CAGR Over the next several years.

Speaker 3

Dividend will improve 5th Third's loan portfolio granularity, geographic and balance between consumer and commercial loans. Furthermore, while not modeled, we expect to generate synergies over time in our mortgage and home equity business, as well as with our existing commercial clients. The transaction is also financially compelling. In 2021, Dividend gained market share and originated over $1,000,000,000 in loans, which increased 40% compared to 2019. We expect total origination volume of around $1,000,000,000 in 2022 post close.

Speaker 3

Dividend Finance previously utilized an originate to sell model. And as a result, the closing of the acquisition will not include a material transfer of loan balances. However, post close, 5th Third will retain all loan originations. Given the scalability of the business, We expect a life of loan ROA of 3% plus, ROTCE of 30% plus, and an efficiency ratio below 20%. Our modeling conservatively assumes a market share consistent with Dividend Finance's recent history, no extension of the Federal Solar Investment tax credit and annualized net charge offs around 130 basis points.

Speaker 3

The acquisition is expected to close in 2nd quarter and will utilize approximately 30 basis points of capital. Our long term capital priorities remain unchanged. 1st, deploy capital into organic growth initiatives, then evaluate strategic non bank opportunities, continue paying a strong dividend, And finally, execute share repurchases with excess capital. Given the strong loan growth and the acquisition of Dividend Finance, we currently expect to resume share repurchases sometime in the second half of the year. Moving to our current outlook.

Speaker 3

Our full year guidance includes the financial impacts from dividend finance, which is expected to close in the second quarter. We Expect full year average total loan growth between 5% 6% compared to 2021, including the expected headwinds from PPP and the Ginnie Mae forbearance loans we added throughout last year. Excluding these items, we expect Total average loan growth between 10% and 11%, reflecting robust pipelines, sales force additions, Dividend and provide acquisitions and only a 1% improvement in commercial revolver utilization rates over the course of the year. This should result in commercial loan growth of 12% to 13%, excluding PPP. Additionally, we expect total average consumer loan growth between 6% 7%, excluding the Ginnie Mae loans.

Speaker 3

On a sequential basis, we expect 1st quarter average total loan growth 3% to 4%, excluding PPP and Ginnie Mae loans. Including those impacts, we expect average total loans to increase 1% to 2% compared to the Q4. Our outlook reflects continued strength in commercial given our production and pipelines. We expect 6% average C and I growth in the Q1, excluding PPP. We expect CRE balances to be stable to be stable sequentially in the Q1 and as a result, expect average total commercial loan growth of 4% to 5% sequentially, excluding PPP.

Speaker 3

We expect average consumer loan balances to increase around 1% sequentially excluding the Ginnie Mae impacts. We provide our expectations for this portfolio in our presentation appendix. Given our loan outlook, we expect full year NII to increase 4% to 5%. It is worth noting that our outlook incorporates the impacts from the PPP and Ginnie Mae portfolios, which will result in a $220,000,000 headwind next year or about 4.5 percentage points. Meaning, we would have close to double digit growth in NII if not for those portfolios, which have served their purpose to help bridge us to the more productive rate environment.

Speaker 3

Given that current rate environment, our forecast assumes growth in our securities portfolio of approximately $1,000,000,000 per quarter and As a reference point, we estimate that a 25 basis point incremental rate hike would increase NII by approximately $30,000,000 to $35,000,000 per quarter or 7 basis points of NIM when fully realized. The ultimate impact to NII of incremental rate hikes will be dependent on the timing of short term rate movements, balance sheet management strategies, including securities growth and transaction and realized deposit betas. On the topic of deposit betas, our current outlook assumes a deposit beta around 13% over the first 100 basis points of rate hikes, including less than 10% for the first couple of hikes. We have updated our NII sensitivity disclosures in the presentation appendix, which now incorporates a dynamic beta repricing assumption rather than static beta approach previously utilized. The information in the appendix uses modeled approaches to estimate the impacts various rate scenarios based on decades of historical data.

Speaker 3

These model betas are 30% for the first one hundred basis and 36 percent for the +200basispointscenario. For the Q1, we expect NII to be down 1% set by strong loan growth. Given the January 3rd forward curve did not consider a March rate hike, If the Fed were to move in March with a run up in benchmark rates, we would expect Q1 NII to be stable sequentially. We expect adjusted non interest income to increase 3% to 5% in 2022, reflecting continued success Taking market share due to our investments in talent and capabilities, resulting in stronger treasury management revenue, capital markets fees and wealth and asset management revenue. Additionally, we expect strong processing revenue, reflecting both the economic environment and continued household growth.

Speaker 3

Mortgage revenue should improve modestly in 2022, reflecting elevated servicing revenue from MSR purchases throughout 20 and moderating asset decay, partially offset by a meaningful decrease in production revenue. We expect TRA and private equity or decline around 8% to 9% compared to the 4th quarter. Excluding the impacts of the TRA, we expect fees to be down approximately 3% sequentially, reflecting seasonal factors, a decline in private equity income and lower leasing revenue. We expect full year adjusted non interest expense to be up around 1%, excluding the impact of dividend finance compared to 2021, We're up 2% to 3%, including dividend. We expect compensation expenses to increase around 3% reflecting wage pressures and sales force additions, partially offset by lower performance based compensation In certain areas such as mortgage, given the outlook for lower origination volumes.

Speaker 3

We also continue to invest in our digital transformation, Which should result in technology expense growth of around 10%, consistent with the past several years. We also expect marketing expenses to increase in the mid single digits area. Our outlook also assumes we add 20 to 25 new branches in our high growth markets, which will result in high single digits growth of our Southeast branch network. We expect these items to be partially offset by the savings from our process automation initiatives, reduced servicing expenses associated with the Ginnie Mae portfolio, a decline in leasing expense given the revenue outlook and continued overall expense discipline throughout the company. We expect total adjusted expenses in the Q1 of 2022 to be up around 3% to 4% compared to the year ago quarter or up 5% to 6% compared to the prior quarter.

Speaker 3

As is always the case for us, our Q1 expenses are also impacted by seasonal items associated with the timing of compensation awards and payroll taxes. Excluding these seasonal items, we expect 1st quarter expenses to be down approximately 2% Compared to the Q4. Additionally, our first quarter expense outlook is impacted by a broader and larger special equity grant for eligible employees to reward the record performance in 2021 and to provide a retention incentive over the next full years in this competitive labor market. As a result, our full year 2022 total adjusted revenue growth is expected to exceed the growth in expenses, resulting in more than a one point improvement in the efficiency ratio. Our outlook for positive operating leverage reflects continued success growing our fee based businesses, recent acquisitions, expense discipline and strong balance sheet management.

Speaker 3

It also considers the known revenue headwinds from PPP and our Ginnie Mae portfolio. We would have guided to positive operating leverage on a stand alone basis even without any rate hikes. We expect 2022 net charge offs to be in the 20 to 25 basis point range, and we expect 1st quarter net charge offs to be in the 15 to 20 basis points range. In summary, our 4th quarter and full year results were strong. We achieved positive operating leverage in 2021 in a challenging interest rate environment while maintaining discipline throughout the company.

Speaker 3

We have a highly asset sensitive balance sheet, which should We have over $30,000,000,000 of excess cash and continue to grow and diversify our fee revenues, All of which support our through the cycle outperformance. We are deploying capital in order to maximize long term profitability And are committed to generating sustainable long term value for our shareholders. With that, let me turn it over to Chris to open the call up for Q

Speaker 1

and A. Thanks, Jamie. Before we start Q and A, as a courtesy to others, we ask that you limit yourself to one question and a follow-up and then return to the queue if you have additional questions. We will do our best to answer as many questions as possible in the time we have allotted this morning. Operator, please open the call for questions.

Speaker 4

Thank

Operator

you. And please now leave your questions to 1 primary one follow-up. One moment please for our first question. Our first question comes from the line of John Pancari from Evercore. Your line is open.

Speaker 5

Good morning.

Speaker 2

Hey, John. Good morning.

Speaker 5

On the loan growth front, clearly on the commercial side, on C and I, very robust On the end of period growth 11% ex the PPP impacts, can you give us a little more detail on the drivers In terms of the businesses, I know you mentioned corporate and middle market. And then also did you see any impact from borrowers pulling forward demand for borrowing into the Q4 given the change from LIBOR to SOPHAR. Thanks.

Speaker 2

Hey, John, this is Greg. I'll start off. I'm going to throw that We prepared with a lot of color on to your question we were expecting, of course. First off, we've made significant investments over the last 5 years Our strategic markets in the Southeast, West Coast, Texas, our verticals and talent and so forth. So we would expect to see this type of outcome As we go into last year and into this year, so we're very pleased with the performance.

Speaker 2

We're very pleased with the momentum we have going into it. Once again, I think it's a byproduct of the investments we made in Our expansion of these geographies and just the way we've approached this business over the last 5 years. We're starting to see the outcomes. Tim will give you more color as far as the market Sullivan will receive the outcome.

Speaker 6

Yes, sure. Happy to do it. So let me anchor it to the numbers. So ex PPP, as you mentioned, C and C and I loan growth was about 11% or on a dollar basis, it was about $4,900,000,000 point to point in the quarter. So of that, About 1 third of it came from an increase in utilization on existing revolvers and then a full 2 thirds The growth were a byproduct either of the record production we had.

Speaker 6

We had a record quarter in addition to it being a record You're in both corporate banking and in the middle market or it was new clients funding up commitments that were extended in earlier quarters this year consistent with the With the data we have been sharing on commitment growth. So on the utilization front, Middle market the lower end of our book tends to move in terms of utilization faster than the corporate banking side and we did see that Middle Market and Business Banking had the best pickup in utilization rates, which is probably at least in part a byproduct of the manufacturing and logistics centric nature of the Midwest markets. But the drivers there when you talk to clients were really inventory levels. There were some tax distributions or was business expansion related, people investing in CapEx or acquisitions. On the corporate banking side, it was really the FIG vertical, but the draws there were most concentrated in the mortgage servicer segment.

Speaker 6

On the 2 thirds of the growth that came from production, I think as Greg mentioned, they were literally basically entirely driven by the strategic investments. So on Corporate Banking, it was industry verticals. In the middle market, it was really the sales force expansion in the Southeast through the additions of California and Texas. And it was strong performance from Provide as they got into the run rate. In total, it really is new relationships More than it is folks pulling forward a transition to SOFR.

Speaker 6

So we added 551 new relationships in commercial 2021, it's about 30% more than our prior high mark at any one point. And I think What we feel very good about is these really aren't just loan only relationships. They are the driver of what you saw in the strong growth we had on both Treasury Management and Capital Markets. I think if you look forward, I was looking at the bottoms up pipelines earlier this week, and they're about 70 5% larger than where they were at the same time last year and almost 90% larger than the Q1 of 2019. So we feel very good about our ability to sustain the robust loan growth.

Speaker 6

And the drivers there again are the strategic investments. Chicago is the biggest year over year improver as we continue to see strength and the benefits of the synergies from the MB merger. And then it's markets like Tennessee, North Florida, California and Texas in the regions. And then on the vertical side, It's the stalwart verticals for us, healthcare and TNT, along with continued really good growth in renewables. And then as we talked In the past, the mortgage warehouse segment that we launched recently.

Speaker 6

I think having been out in The energy is really good there. I think there's a strong sense for us that between the investments we've made and And the fact that we've really been able to focus on execution and collaboration, haven't had our people back in the office for longer And not having the distractions of a merger integration or otherwise. It really has been it's been nice to

Speaker 5

Got it. All right. Thanks, Tim. And then quickly, Greg, just on M and A, wanted to get your updated thoughts On deals, I know you indicated that non bank acquisitions would be more of a priority. And if so, what additional businesses outside of What you just did on the dividend finance side.

Speaker 5

What other businesses in terms of bolt ons? And then maybe a quick comment just on whole bank deals. Thanks.

Speaker 2

First, thanks for the questions. Our strategy hasn't changed. It's really, as you said, it's the bond opportunities, non bank transactions, just like we did with dividend, We couldn't be more pleased about that acquisition and how it fits into our portfolio of opportunities strategically. But more of those type of opportunities we're going to continue to We're going to continue to look for, so point of sale on the consumer side. In addition to that, we're going to continue to focus on wealth and asset management opportunities that might emerge.

Speaker 2

Obviously, on On the advisory side of the house, there's other verticals that we're looking for partners in that space from an advisory perspective. So We'll continue to focus on those opportunities the FinTech plays and the advisory that fits in some of the additional verticals, wealth and asset management will be the areas of We continue to stay focused on. When you think about a bank acquisition right now, especially given all the challenges and complexity of what we're seeing in On the regulatory front in Washington with some of the movements that are underway right now and the challenge to get a large transaction done or a bank transaction for banks over 100,000,000,000 That's out there, so it's on your mind as you think about timing to get transaction done. But once again, at this point right now, Our focus is to be relevant in the strategic markets that we're already banking in. There's not many of those opportunities that exist right now.

Speaker 2

So once again, it's not a primary focus of ours today and I don't see that in the near future also as we think about the rest of this year.

Speaker 5

Great. Thanks, Greg.

Operator

And our next question comes from the line of Erika Najarian from UBS. Your line is open.

Speaker 7

Hi, good morning.

Speaker 4

Good morning.

Speaker 7

My first question is for Jamie. Jamie, you have been vocal in the past in terms of guiding or giving us a Competitors mentioned that they don't expect negative deposit growth at all. In fact, they expect positive deposit growth through this freight cycle. And I'm wondering, especially in light of your commentary that you're deploying about $1,000,000,000 of cash quarter if you have changed your tune as to the duration of the excess deposits that you gathered during the pandemic.

Speaker 3

Thanks, Erica, and welcome back to the coverage of the 3rd. So, appreciate the question.

Speaker 4

Let

Speaker 3

me take it in 2 parts. So, first, When it comes to the macro view and for the industry, you go back over the last 100 years, I think there have only been 2 years where deposits Didn't grow in the industry. So I do believe that there can be deposit to growth as the Fed tightens in history proves that. So when it comes to 5th Third, the more idiosyncratic view that we have is that we would be comfortable having up to a third of our excess cash migrate away from 5th Third Deposit products and into more productive vehicles for those customers. So with that said, when we look at our deposit betas and our deposit pricing outlook For the rate hikes on the horizon, we're going to be very disciplined on those deposit rates.

Speaker 3

And therefore, if deposits leave. It's a very manageable outcome for us. However, I will tell you, given our strong commercial client acquisition, our strong treasury management growth and our strong household growth. As we sit here today, even with balance and disciplined deposit betas. We still expect deposit growth this year At the 3rd.

Speaker 3

And that's even with continuing to run down our CD portfolio. So As much as I would be comfortable with a little bit of deposit outflow, I think given our sales success, we will have deposit growth this year.

Speaker 7

Got it. And my second question is for Greg. I thought it was very striking and telling that Jamie said during his prepared remarks That you would have generated positive operating leverage without rates. And the earnings season has really put CEOs in 2 camps. 1, the CEOs that are spending the rate hikes and second, those that are more allowing it to fall to the bottom line.

Speaker 7

As we think about the third and the third in the middle of a normalizing rate cycle. What is your view of reinvesting later years, right, after the PPP headwinds dissipate versus taking that rate generated additional Income and Reinvesting It.

Speaker 2

First off, we're always going to continue, Erica, to invest in the future of this company. We're in it for a long haul. We never do anything focused on a quarter or even Full year, so we'll continue to invest. We've got our technology investments that's been running around 10%. You can expect we're going to continue to do that.

Speaker 2

We're also going to Continued to invest in our ability to expand this franchise, both geography, product sets, through our verticals of capabilities in our talent capabilities. So we'll continue to invest in those areas. Obviously, wages are another area we're going to have to continue to step up on and which we have been, as a leader in minimum wage going from 12 to 15 to 15 to 18. We took that pain before most of our peers did. We saw the need to do that.

Speaker 2

So if you think about our investment, we're going to continue to invest. But we also believe a lot of the Guidance we're giving right now, this year when you think about the first 3 to 4 or 5 increases on the rate side of the house, most of that will fall To the bottom line, as we already got our investment structure put in place for 2022. Beyond that, we'll continue To think about our investments is necessary. You can expect some of that then we'll start to continue to turn into future investments. But I think as you look at this year, The guys we provided, most of that would follow the bottom line.

Speaker 7

Great. Thank you.

Operator

And our next question comes from the line of Ken Usdin from Jefferies. Your line is open.

Speaker 8

Hi, good morning. Jamie, you've been steadfast in your view of holding back on liquidity deployment. We see that again this quarter. Just wanted to as we've seen quite a change in what the potential outlook for rates looks like, Any different views here about how you expect to use excess liquidity and look at the securities book going forward?

Speaker 3

So in the prepared remarks, we talked about deploying $1,000,000,000 per quarter into the investment portfolio. A little more detail around our thinking there is that we've been patient. We were fortunate to be able To be patient, we have a very well positioned portfolio heading into the pandemic, and so it's afforded us this opportunity to wait. We've always said we wanted to get to the 2% entry points and we got That visibility at the back half of December. And so we put some money to work in December and then we've continued to do that Here in January and expect to do it as the year progresses.

Speaker 3

Should rates continue, the curve continue to steepen and We perhaps could choose to move a little bit faster and if they dip back down, we may choose to Step off the gas a little bit in terms of the investment, but what we're investing in, we're really focused on structure right now. We finished the year with the bullet and locked out Cash flows at 59%. I would expect that number to get a little bit higher as we deploy A portion of the excess cash, so let's call it 40% to 50% of the allotment that we have for the security portfolio currently of $10,000,000,000 So we'll reinvest cash flows. We'll add a little bit of that leverage during the course of the year and look for us to do that and more structured product.

Speaker 8

Great. And my follow-up is just $275,000,000 exit on your securities portfolio yields and following on that point you just made about the locked out cash flows. Can you help us understand how you see that $275,000,000 trajecting inside your overall NII outlook and the amount of? Thanks. Yes.

Speaker 8

Thanks. Very good book and the amount of thanks.

Speaker 3

Thanks. Very good question. We expect yields for the portfolio to be in the 260 to 270 range this year and that's with reinvesting and adding the additional leverage. The one component To the portfolio yield that is a little bit lumpy is the prepayment penalties. It's one of the advantages you get from the bullet structure that we have and we are the beneficiaries of it in the Q4.

Speaker 3

We've had a little bit thus far in January and we would expect some of that as the year Progressives. But that's the one item that makes it a little more challenging. But I would expect, call it, 5 to 8 basis points of erosion as the year progresses, but then some prepayment penalties bolstering the yield So that we end up in that $2.60 to $2.70 range for the year.

Speaker 4

Great. Thank you.

Operator

And your next question comes from the line of Gerard Cassidy from RBC. Your line is open.

Speaker 4

Good morning, Greg. Good morning, Jamie.

Speaker 2

Good morning, Gerard.

Speaker 3

Hey, Gerard.

Speaker 4

Jamie, can you elaborate? You gave Some interesting numbers on the dividend acquisition. When you talk about the life of loans In terms of the ROAs and profitability, can you give us some more information or just elaborate on how you're going to grow that business And why the profitability appears to be so high in that business.

Speaker 3

I'll start and then I'll turn it over To Tim to add a little more color, but thanks for the question, Gerard. In terms of the loans and why they screen so profitably, right now, it's Offered as a 20 to 25 year term, the coupon the customer is paying is in the 3% range. But the tax incentives are significant and allows a merchant discount to be paid, and that Merchant discount could add as much as 5 percentage points to the yield, given that the loans end up being about a 5 year life. So you end up in the 22%, 23% type of Federal Benefit as Part of the Energy Tax Credit Program. So there are some moving parts here.

Speaker 3

The yield will ebb and flow as a result of how that merchant discount plays out in the ultimate weighted average life, but that is why on the surface, it is a very profitable business, more so

Speaker 4

than some of the

Speaker 3

other consumer origination channels that we have. And this is an area that we even Talked about at several of the conferences in 2021 is a key challenge for 5th Third is really improving the technology And the distribution around home equity lending and other consumer point of sale origination channels. So Yes. I think to Jamie's point, I

Speaker 6

mean, point 1, Gerard, as it relates to the way that you grow it is It's easier to grow when you have a strong tailwind and there's no question when you look at the level of investment that's going to go into home improvement over the course of the next 5 to 10 years focused on sustainability. There's really significant opportunity. I mean, the dividends business today has been primarily on solar panel side of the business. But in addition to that, there's storage, which is a fast growing sector. There's energy efficiency related investments, whether that's HVAC or windows or green landscaping or otherwise.

Speaker 6

And then I think as we continue to see this push toward electric vehicles, there's a dynamic as it relates to high voltage currency into different parts of the homes than you needed Previously, so all those categories are going to be big drivers of secular growth in the broader home improvement sector. And with dividends positioning and the investments that have been made in this end to end technology platform, I think we believe they're pretty uniquely positioned to benefit and to continue to gain share there. I mean this is To call it a point of sale platform is almost to understate what it is. It's a fully integrated solution that allows contractors to drive quoting, to specify the sort of technical details around the installation There are 3rd party data checks on the appropriateness of what is being installed, given the weather and the power generation potential and the local utility rates, which are obviously very customer friendly, but also a good guardrail for the contractors They have APIs directly into the largest contractors CRM system. So in many cases, There isn't a 3rd party point of sale at all.

Speaker 6

It's just generated out of the iPad application that the contractor is using to begin with. And then all manner of downstream capabilities, including not funding loans until there's actually power coming off of the panels today that provide a really excellent customer experience. So as they come into 5th Third, they obviously have the benefit of our balance sheet. That's one less thing that the fintech credit Otherwise, we would need to do in terms of recruiting bank funding partners. So we should be able to improve the product innovation velocity The way that we have with Provide, bluntly.

Speaker 6

Provide launched more products in the last 6 months than they had in the 3 years prior, okay,

Speaker 4

on the financing side.

Speaker 6

I think the financing side. I think the other obvious benefit is while we are not believers in the way that some are in the opportunities associated with Indirect Lending to Checking Account Cross Sell. There are very obvious loan to loan opportunities here, whether The 5th Third Mortgage Servicing Portfolio and Providing an Extension of Credit There. We're leveraging our ability to underwrite and and to connect that with a replenishable open to buy against what's an installment loan or otherwise. So I think that is How we the first point of growth here is going to be make sure we get the talent in.

Speaker 6

We'll continue to make investments And the technology platform benefit from the secular growth

Speaker 9

and then we're going to

Speaker 4

add capabilities that a bank

Speaker 6

can add in this case.

Speaker 4

Very good. And then as a follow-up, Jamie, when looking at your balance sheet, obviously, your loan to deposit ratio is quite low as for

Speaker 5

the industry Because of the

Speaker 4

deposit growth, you touched on what you think deposits could do. What do you think is a optimal loan to deposit ratio for 5th Third. And how long would it take to reach that level considering the puts and takes of what's going on in the marketplace today?

Speaker 3

Yes. As you pointed out, it's certainly a low loan to deposit ratio in the mid-60s right now. It's certainly far better than, I think, our at least in my career, our highest number was back in 2,005. It was like 100 20%. So I think the optimal ratio is probably somewhere in between I'd like to operate the balance sheet in the 85% or so range, which is why we would be willing to have Some of the more rate sensitive deposits run off during the Fed tightening cycle, call.

Speaker 3

But also and more importantly is that we do expect significant loan growth as we talked about, dollars 10 plus 1,000,000,000 $13,000,000,000 or $14,000,000,000 next year. And so that's going to help give a nice notch up in the loan to deposit ratio, but it probably takes us a couple of years to get back to the number that we would, I think like to operate and that would be indicative of a very productive balance sheet.

Speaker 6

Great.

Speaker 4

Appreciate the color. Thank you.

Operator

And your next question comes from the line of Gil Carcache from Wolfe Research. Your line is open.

Speaker 4

Thank you. Good morning, everyone. Jamie, can you speak to whether there's a risk that Some of the upward pressure you're seeing on expenses may be out of your control. If you could just frame your confidence level in being able to manage We feel

Speaker 3

Very confident in our ability to manage expenses. It's one of the things that's been a hallmark of the company under Greg's leadership, The expectation that every year, every area has to get more efficient. It's just a base expectation when we go through our planning, and you see it in the results. So heading into this year, there's $125,000,000 of savings that I'm highly confident We will achieve through the lean process automation, through the branch consolidations and the vendor savings. But then as Greg pointed out, we do want to invest in our employees and in our franchise To really drive that revenue growth.

Speaker 3

So I think we've got a good approach here where we're balancing the revenue growth and sales expansion of the company while leaning out the support functions. And then to your main point of the question, when it comes to inflation, wages, Yes, we have a stronger merit pull this year and we have the special equity grant that we mentioned earlier to help improve retention. But that comes at a And that is baked into our guide. And our guide was to be up 1% on a standalone basis. The dividend acquisition adds a point 5 or so to the expense number, which is how we ended up in the 2% to 3% range.

Speaker 3

But as Craig said, we're really focused on the long term performance, Doing the right thing in the long run, and I think our expense discipline helps drive that. And it may appear to an outsider When you look at the numbers, there's not a lot of activity there because things are fairly stable. The reality is we are driving a lot of savings, but we're choosing to reinvest

Speaker 4

That's helpful. Thank you. As a follow-up for Greg, I wanted to ask a strategic question. When you look at the success you've had with some of the bolt on deals you've done, do you see a time where you'll want to continue to expand in the new markets beyond Those are you're already in through digital channels without the need for traditional M and A and all the disruption that can bring or are the I guess the focus of the focus of your digital investments on serving customers in your existing markets.

Speaker 2

First off, every CEO says we're a relationship bank, but we really live and breathe being a relationship bank as evidenced by our commitment to have our employees back in the office focused on taking care of the customers. So, we need to get our digital channels. It's really about how we reach our customers and how we service our customers and doing that best in class. So right now, we're pleased with the expansion markets that we're focused on right now. As we look at those, there's probably a couple other markets that we're interested in.

Speaker 2

If we buy the right We won't go into those markets, but it's all based on the talent. But I don't see us necessarily leading with a digital play at this point. On the consumer side, in markets that we're not in today from a brick and mortar perspective, I don't see that happening I don't think we need to do that. I don't think it's good business for us. As we mentioned before, we're flushed liquidity.

Speaker 2

We get strong household growth. The profitability of our retail franchise has never been stronger. So we think the model we have right now, which is Provide the brick and mortar services, call center services, with our digital capabilities is the best model for us today. Now, obviously, We're not going to be naive and bear our head to say this, what the future might hold, but if that opportunity presents itself that makes sense, we have our capabilities to do those expansions with our technology and they're designed for that, but we'll take advantage of that opportunity if it makes sense at some point in the future if it

Speaker 4

Understood. Thank you for taking my questions. All right.

Speaker 2

Thank you. Our

Operator

next comes from the line of Mike Mayo from Wells Fargo. Your line is open.

Speaker 7

Hi.

Speaker 9

Who set off the starting gun for loan growth? So what you grew, what, 44% annualized commercial loans We're up $9,000,000,000 and what you described, I guess, what, 1 third drawdown and roughly split On middle market large corporate, you talked about inventory build and capital expenditures. So I think you gave a nice summary of all that. What happened to the supply chain disruptions and the delay in Monrovia till later? Did the supply chain disruptions go away?

Speaker 9

Really, the question is why now?

Speaker 6

Yes. I mean, Mike, it's Tim Spence. Hello. No, I think Supply chain issues are still real. We have many clients who say they'd like to be running at inventory levels that are above where they're at.

Speaker 6

I just think we took share this year. I mean, that's the reason I anchored back to this point about our having record new relationship growth, new quality relationship growth Into the commercial bank. Anecdotally, when you get into the ground, there wasn't a geographic market that didn't add double digit new relationships This year, then you go out and you talk to those clients and it literally they were house relationships at other places who either associated with disruption or who felt like they were not getting what they needed in terms of the breadth of capabilities Or who followed a banker that we managed to attract into our franchise, over time who chose to move from another financial institution to So I think that is the reason that we managed to grow at the rate that we did despite the fact that there are still natural constraints

Speaker 4

to inventory building and that we haven't

Speaker 6

yet seen the And then we haven't yet seen the POP quite at the level that we expect to see, although we did get some benefit event associated with the M and A activity. I think the one other I would tell you is there was an inflection point this year in our pipelines when we got people back into the office and we started Seeing clients in person in April of this past year. And the level of activity that we generate through our 1Bank model, which is the relationship management model that's been in place here for more than a decade is really core to the way that we grow the business. And I think we saw the outcomes of that over the course of the year in terms of the acceleration of loan growth and

Speaker 9

So not just for words here, but I'm looking for validation. As it relates to loan growth, The pandemic is over.

Speaker 2

Last I checked, the pandemic is not over. We're all looking at each other trying to figure out who's going

Speaker 9

to take that one.

Speaker 2

So I do think the supply chain constraints. I think the labor shortages and so forth are here to stay for a while. I don't see that, adding at all as we go into the year. But I think people are adjusting. I think corporations are adjusting.

Speaker 2

I think they're figuring out ways to do things more efficiently. As Tim said, there's not a customer we talk to where labor is not an issue. There's not a customer we talk to where they wouldn't like to build more inventory faster. But I think we've just done a good job of banking those customers and taking those relationships, but it will still be a challenging environment as we move forward. But we're very optimistic and investments we've made in the geographies and people and capabilities.

Speaker 2

And we just feel like we've got the right formula right now.

Speaker 3

Yes, Mike, I would say that while the pandemic is not over, we're navigating it quite well with All of the strategies that Tim and Greg have laid out and that we're very bullish on that loan growth for 2022 In addition to the Provide acquisition now adding dividend finance to the 5th Third Family.

Speaker 9

And then just one clarification. So clearly, you're pursuing build not buy, but part of that decision not to pursue bank deals. You said it's because of the communication of Washington DC about the regulatory scrutiny on mergers over $100,000,000,000 that The company is holding you back, Tom, even if you wanted to?

Speaker 4

Yes. I thought we ought to tell you,

Speaker 2

if we wanted to, and it's an if, if we thought there was the right opportunity, another if, that's out there that makes sense, that's actionable. I would be very concerned as a CEO trying to introduce an opportunity right now Into the regulatory environment with some of the constraints that are out there, I think, on how they're thinking about mergers until they get Some of those items addressed, dealt with, figured out. I just think it's going to be problematic for a period of time.

Speaker 9

Got it. Thank you.

Speaker 2

Thank you.

Operator

And our next question comes from the line of Matt O'Connor from Deutsche Bank. Your line is open.

Speaker 4

Hi, guys. Hi, Matt.

Speaker 10

You You talked about how overdraft or the NSF fees are lower for you guys and peers, I think it was last month, and rolled out some changes. Just remind us What the impact to revenues might be this year and kind of longer term? And then is there any kind of additional changes you're thinking of making given some Announcements from bigger banks as well. Thanks.

Speaker 6

Yes. Matt, it's Tim. Thanks. So just to recap. I mean, we've talked a lot about the fact that we've been among the least reliant banks on punitive fees for a while now.

Speaker 6

And about the fact That really was a part of about a 3 to 4 year journey that we have been on to improve the checking value proposition and then really to get out of Business of charging customers when something went wrong as opposed to charging them because we've added value and given them the tools to manage liquidity more effectively. And it was because of all the forces you see people reacting to today. So I think we've been very clear about what's in the momentum banking proposition and the fact that it offers the broadest suite of rules to avoid an overdraft that we talked a little bit about in the Q4, the fact that we made changes in October, including things like changing posting orders increasing the de minimis negative balance threshold lowering the limit on the number of daily occurrences. I think Essentially the same things you're hearing from others today. Lastly, the one other item that has been on the roadmap that we are moving forward with is eliminating SF fees and we do intend to do that at the end of the second quarter.

Speaker 6

All those changes are incorporated into the 2022 fee outlook. So you should not expect an incremental negative from 5th Third associated with the evolution of the way that we think about helping customers

Speaker 10

Okay, that's helpful. And then separately, a bit of a random question, but You're a very big auto lending bank to consumers. And as we think about car Our prices being up so much, especially used cars, have you thought about kind of underwriting a bit different? You've got really good disclosures in your appendix. The LTVs have come down a little bit, FICO up a little bit.

Speaker 10

When I read about used car prices up 40%, 45%, I just think for myself, underwriting to that may not be a great idea. So I don't know how you're thinking about that, but just being a big player

Speaker 11

Yes. Thanks for the question. It's Richard. From an underwriting standpoint, We do think about how values have changed, but I think it's important to understand, we look at loan to values, We look at the supply and demand dynamics for autos. We don't think that's going to change In the near term, certainly, I think the dynamics around how the OEMs actually produce and sell cars are going to create a continued tightness, If you will, in terms of supply.

Speaker 11

I think the days the OEMs filling the factory and flooding the market with cars are done. They're going to be more That's going to give us more certainty around used car prices over time. The other thing I'll add is We are a prime and super prime underwriter from an auto perspective. And so while the collateral value is important, it's the Quality of the borrower that really stands tall for us and that hasn't changed for us at all and we continue to see the tailwinds around the consumer from Quality perspective to be strong. So no real changes in terms of the underwriting criteria.

Speaker 11

We are mindful of supply and demand dynamics and And do consider what car prices will do in the future.

Speaker 10

Okay. And remind me the mix of new versus used car

Speaker 3

We have 5,842 used in 2021 and I

Speaker 6

don't think it's ever And outside of the sixty-forty one way or the other. We live in the sort of roughly evenly balanced range.

Speaker 10

Yes. Okay, perfect. Thanks so

Operator

much. And we have reached the end of our Q and A session. I would like to hand the Please go back to Mr. Crystal for the closing remarks.

Speaker 1

Thank you, Luty, and thank you all for your interest in 5th Third. Please contact the IR department if you have any further questions.

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Earnings Conference Call
Fifth Third Bancorp Q4 2021
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