ITEM 1A - Risk Factors
Our operations and financial results are subject to various risks and uncertainties, including, but not limited to, the material risks described below. Many of these risks are beyond our control although efforts are made to manage and mitigate those risks while simultaneously optimizing operational and financial results. The occurrence of any of the following risks, as well as risks of which we are currently unaware or currently deem immaterial, could materially and adversely affect our assets, business, cash flows, condition (financial or otherwise), liquidity, prospects, results of operations and the trading price of our common stock. It is impossible to predict or identify all such factors and, as a result, you should not consider the following factors to be a complete discussion of the risks, uncertainties and assumptions that could materially and adversely affect our assets, business, cash flows, condition (financial or otherwise), liquidity, prospects, results of operations and the trading price of our common stock.
In addition, certain statements in the following risk factors constitute forward-looking statements. Please refer to the section entitled “Cautionary note regarding forward-looking statements” included in this Annual Report.
CREDIT AND LOAN RISK
The majority of our assets are loans, which if not repaid would result in losses to the Bank.
Making any loan involves various risks, including risks inherent in dealing with individual borrowers, risks of nonpayment, risks resulting from uncertainties as to the future value of collateral and cash flows available to service debt, and risks resulting from changes in economic and market conditions. Our credit risk approval and monitoring procedures may fail to identify or reduce these credit risks, and they cannot completely eliminate all credit risks related to our loan portfolio. If the overall economic climate, including employment rates, real estate markets, interest rates and general economic growth, in the United States, generally, or our markets, specifically, experiences material disruption, our borrowers may experience difficulties in repaying their loans, the collateral we hold may decrease in value or become illiquid, and the levels of nonperforming loans, charge-offs and delinquencies could rise and require additional provisions for loan losses, which would cause our net income and return on equity to decrease.
We maintain an allowance for credit losses, which is a reserve established through a provision for credit losses charged to expense, which represents the portion of the loan's amortized cost basis that we do not expect to collect due to credit losses over the loan's life, considering past events, current conditions, and reasonable and supportable forecasts of future economic conditions considering macroeconomic forecasts. In addition, we record a reserve for unfunded commitments, considering the same items included in the allowance for credit losses with the addition of expected funding. Management’s determination of the appropriateness of the allowance and reserve for unfunded commitments is based on periodic evaluation of the loan portfolio, lending-related commitments and other relevant factors, including macroeconomic forecasts and historical loss rates. Deterioration in economic conditions affecting borrowers, new information regarding existing loans, identification of additional problem loans and other factors, both within and outside of our control, may require an increase in the allowance for credit losses and/or the reserve for unfunded commitments. The model is sensitive to changes in macroeconomic forecasts and incorporates management judgment. If we are required to materially increase our level of allowance for credit losses for any reason, such increase could adversely affect our business, financial condition and results of operations.
The application of the purchase method of accounting in our acquisitions (and any future acquisitions) also will affect our allowance for credit losses. We are required to determine whether purchased loans held for investment have experienced more-than-insignificant deterioration in credit quality since origination. Loans that have experienced this level of deterioration in credit quality are subject to special accounting at initial recognition. We initially measure the amortized cost of a purchase credit deteriorated loan by adding the acquisition date estimate of expected credit losses to the loan's purchase price (i.e. the “gross up” approach). If we have underestimated credit losses at recognition, we will incur additional expense in our provision for credit losses to maintain an appropriate level of allowance for credit losses on those loans.
In addition, bank regulators periodically review our allowance for credit losses and may require an increase in the provision for credit losses or the recognition of further loan charge-offs, based on judgments different than those of management. Furthermore, if charge-offs in future periods exceed the allowance for credit losses, we will need additional provisions to increase the allowance for credit losses. Any increases in the allowance for credit losses will result in a decrease in net income and capital and may have a material adverse effect on our business, financial condition and results of operations.
Because a significant portion of our loan portfolio is comprised of real estate loans, negative changes in the economy affecting real estate values and liquidity could impair the value of collateral securing our real estate loans and result in loan and other losses.
As of December 31, 2023, approximately 77% of our loan portfolio was comprised of loans with real estate as a primary or secondary component of collateral. This includes collateral consisting of income producing and residential construction
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properties, which properties tend to be more sensitive to general economic conditions and downturns in real estate markets. As a result, adverse developments affecting real estate values in our market areas could increase the credit risk associated with our real estate loan portfolio. Adverse changes affecting real estate values and the liquidity of real estate in one or more of our markets could increase the credit risk associated with our loan portfolio and could result in losses that would adversely affect credit quality and our financial condition or results of operations. These adverse changes could significantly impair the value of property pledged as collateral to secure the loans and affect our ability to sell the collateral upon foreclosure without a loss or additional losses. If real estate values decline, it is also more likely that we would be required to increase our allowance for credit losses. Thus, declines in the value of real estate collateral could adversely affect our financial condition, results of operations or cash flows.
Weakness in residential real estate market prices, weakness in demand, or increases in building costs could result in a volatile environment including price reductions in home and land values adversely affecting the value of collateral securing some of the construction and development loans that we hold. Should we experience the return of adverse economic and real estate market conditions similar to those we experienced from 2008 through 2010 we may again experience increases in non-performing loans and other real estate owned, increased losses and expenses from the management and disposition of non-performing assets, increases in provision for credit losses, and increases in operating expenses as a result of the allocation of management time and resources to the collection and work out of loans, all of which would negatively impact our financial condition and results of operations.
We are subject to lending concentration risks.
Our exposure to commercial real estate (both owner-occupied and non-owner occupied), commercial and industrial, and construction loans expose us to greater credit risk than loans secured by other types of collateral because the collateral securing these loans is typically more difficult to liquidate. Additionally, these types of loans also often involve larger loan balances to a single borrower or groups of related borrowers. These higher credit risks are further heightened when the loans are concentrated in a small number of larger borrowers leading to relationship exposure. As of December 31, 2023, the following loan types accounted for the stated percentages of our loan portfolio: commercial real estate (both owner-occupied and non-owner occupied) - 34%; commercial and industrial - 18%; and construction - 15%.
Non-owner occupied commercial real estate loans may be affected to a greater extent than residential loans by adverse conditions in real estate markets or the economy because commercial real estate borrowers’ ability to repay their loans depends on successful development of their properties. These loans also involve greater risk because they generally are not fully amortizing over the loan period, and therefore have a balloon payment due at maturity. A borrower’s ability to make a balloon payment typically will depend on being able to either refinance the loan or sell the underlying property in a timely manner. In addition, banking regulators have been giving commercial real estate lending greater scrutiny, and may require banks with higher levels of commercial real estate loans to implement improved underwriting, internal controls, risk management policies and portfolio stress testing, as well as possibly higher levels of allowances for losses and capital levels as a result of commercial real estate lending growth and exposures.
Commercial and industrial loans and owner-occupied commercial real estate loans are typically based on the borrowers’ ability to repay the loans from the cash flow of their businesses. These loans may involve greater risk because the availability of funds to repay each loan depends substantially on the success of the business itself. In addition, the assets securing the loans depreciate over time, are difficult to appraise and liquidate, and fluctuate in value based on the success of the business.
Risk of loss on a construction loan depends largely upon whether our initial estimate of the property’s value at completion of construction or development equals or exceeds the cost of the property construction or development (including interest), the availability of permanent take-out financing and the builder’s ability to sell the property. During the construction or development phase, a number of factors can result in delays and cost overruns. If estimates of value are inaccurate or if actual construction costs exceed estimates, the value of the property securing the loan may be insufficient to ensure full repayment when completed through a permanent loan or by foreclosure on collateral.
Commercial real estate loans, commercial and industrial loans, and construction loans are more susceptible to a risk of loss during a downturn in the business cycle due to the vulnerability of these sectors during a downturn. Our underwriting, review and monitoring cannot eliminate all of the risks related to these loans. We also make both secured and unsecured loans to our commercial customers. Unsecured loans generally involve a higher degree of risk of loss than secured loans because, without collateral, repayment is wholly dependent upon the success of the borrowers’ businesses. Because of this lack of collateral, we are limited in our ability to collect on defaulted unsecured loans. Further, the collateral that secures our secured commercial and industrial loans typically includes inventory, accounts receivable and equipment, which usually have a value that is insufficient to satisfy the loan without a loss if the business does not succeed. Our loan concentration in these sectors and their higher credit risk could lead to increased losses on these loans, which could have a material adverse effect on our financial condition, results of operations or cash flows.
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Our ability to grow our loan portfolio may be hampered.
Our ability to grow our loan portfolio could be limited by, among other reasons, economic conditions, competition in our markets, our ability to hire and train experienced or successful bankers, our ability to generate the deposits needed to grow loan assets, or the drain on liquidity and available deposits that the banking industry has experienced and may continue to experience.
MARKET AND INTEREST RATE RISK
Difficult or volatile market conditions in the national financial markets, the U.S. economy generally, or our markets in particular may adversely affect our lending activity or other businesses, as well as our financial condition.
Our business and financial performance are vulnerable to weak economic conditions in the financial markets and economic conditions generally and specifically in our markets, the principal market in which we conduct business. A deterioration in economic conditions in our primary market areas could result in increased loan delinquencies, foreclosures, and write-downs of asset values, lower demand for our products and services, reduced low cost or noninterest-bearing deposits, and intangible asset impairment. Additionally, difficult market conditions may lead to a deterioration in the value of the collateral for loans made by us, especially real estate, which could reduce our customers' ability to repay outstanding loans and reduce the value of assets associated with our existing loans. Additional issues surrounding weakening economic conditions and volatile markets that could adversely impact us include increased industry regulation and downward pressures on our stock price.
We conduct our banking operations primarily in Tennessee. As of December 31, 2023, approximately 72% of our loans and approximately 78% of our deposits were made to borrowers or received from depositors who live and/or primarily conduct business in Tennessee. Therefore, our success will depend in large part upon the general economic conditions in this area. This geographic concentration imposes risks from lack of geographic diversification, as adverse economic developments in Tennessee (including the Nashville MSA, our largest market), among other things, could affect the volume of loan originations, increase the level of nonperforming assets, increase the rate of foreclosure losses on loans, reduce the value of our loans and loan servicing portfolio, reduce the value of the collateral securing our loans and reduce the amount of our deposits.
Any regional or local economic downturn that affects Tennessee or existing or prospective borrowers, depositors or property values in this area may affect us and our profitability more significantly and more adversely than our competitors whose operations are less geographically concentrated.
Changes in interest rates could adversely affect our results of operations and financial condition.
Our earnings and financial condition are dependent to a large degree upon net interest income, which is the difference, or spread, between interest earned on loans, securities and other interest-earning assets and interest paid on deposits, borrowings and other interest-bearing liabilities. When market rates of interest change, the interest we receive on our assets and the interest we pay on our liabilities may fluctuate. This may cause decreases in our spread and may adversely affect our earnings and financial condition. Interest rates are highly sensitive to many factors including, without limitation: the rate of inflation; economic conditions; federal monetary policies; and stability of domestic and foreign markets.
Although we have implemented procedures, we believe will reduce the potential effects of changes in interest rates on our net interest income, these procedures may not always be successful. Accordingly, changes in levels of market interest rates could materially and adversely affect our net interest income and our net interest margin, asset quality, loan and lease origination volume, liquidity or overall profitability. Additionally, changes in interest rates can adversely affect the origination of mortgage loans held for sale and resulting mortgage banking revenues.
The performance of our investment securities portfolio is subject to fluctuation due to changes in interest rates and market conditions, including credit deterioration of the issuers of individual securities.
Changes in interest rates may negatively affect both the returns on and fair value of our investment securities. Interest rate volatility can reduce unrealized gains or increase unrealized losses in our portfolio. Interest rates are highly sensitive to many factors including monetary policies, domestic and international economic and political issues, and other factors beyond our control. Additionally, actual investment income and cash flows from investment securities that carry prepayment risk, such as mortgage-backed securities and callable securities, may materially differ from those anticipated at the time of investment or subsequently as a result of changes in interest rates and market conditions. These occurrences could materially and adversely affect our net interest income or our results of operations.
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We may be materially and adversely affected by the creditworthiness and liquidity of other financial institutions.
Financial services institutions are interrelated as a result of trading, clearing, counterparty, or other relationships. We have exposure to many different industries and counterparties, and routinely execute transactions with counterparties in the financial services industry, including commercial banks, brokers and dealers, investment banks and other institutional customers. Many of these transactions expose us to credit risk in the event of a default by, or questions or concerns about the creditworthiness of a counterparty or client, or concerns about the financial services industry generally. In addition, our credit risk may be exacerbated when the collateral held by us cannot be realized upon or is liquidated at prices not sufficient to recover the full amount of the credit or derivative exposure due to us. Any such losses could have a material adverse effect on us.
LIQUIDITY RISK
A lack of liquidity could adversely affect our operations and jeopardize our business, financial condition or results of operations.
We rely on our ability to generate deposits and effectively manage the repayment and maturity schedules of our loans and investment securities to ensure that we have adequate liquidity to fund our operations. In addition to our traditional funding sources, we also may borrow funds from third-party lenders or issue equity or debt securities to investors. Our access to funding sources in amounts adequate to finance or capitalize our activities, or on terms that are acceptable to us, could be impaired by factors that affect us directly or the financial services industry or economy in general, such as disruptions in the financial markets or negative views and expectations about the prospects for the financial services industry. Any decline in available funding could adversely impact our ability to originate loans, invest in securities, meet our expenses, pay dividends to our shareholders, or to fulfill obligations such as repaying our borrowings or meeting deposit withdrawal demands, any of which could have a material adverse impact on our liquidity, business, financial condition or results of operations.
Failure to address the federal debt ceiling in a timely manner, downgrade of the U.S. credit rating, and uncertain credit and financial market conditions may affect the stability of securities issued or guaranteed by the federal government, which may adversely affect the valuation or liquidity of our investment securities portfolio and increase future borrowing costs.
As a result of uncertain political, credit and financial market conditions, including the potential consequences of the federal government defaulting on its obligations for a period of time due to federal debt ceiling limitations or other unresolved political issues, investments in financial instruments issued or guaranteed by the federal government pose credit default and liquidity risks. Downgrades to the U.S. credit rating could affect the stability of securities issued or guaranteed by the federal government and the valuation or liquidity of our portfolio of such investment securities, and could result in our counterparties requiring additional collateral for our borrowings. Further, unless and until U.S. political, credit and financial market conditions have been sufficiently resolved or stabilized, it may increase our future borrowing costs.
MORTGAGE BANKING RISK
Our mortgage revenue is cyclical and is sensitive to the level of interest rates, changes in economic conditions, decreased economic activity, and slowdowns in the housing market.
The success of our mortgage segment is dependent upon our ability to originate loans and sell them to investors. Loan production levels are sensitive to changes in the level of interest rates and changes in economic conditions. As the mortgage industry experienced in 2023, mortgage production, especially refinancing activity, declines when interest rates rise. Our mortgage origination volume could be materially and adversely affected by rising interest rates.
Because we sell a substantial portion of the mortgage loans we originate, the profitability of our mortgage banking business also depends in large part on our ability to aggregate a high volume of loans and sell them in the secondary market at a gain. If interest rates rise, we expect increasing industry-wide competitive pressures related to changing market conditions to reduce pricing margins and mortgage revenues generally. If our level of mortgage production declines, our continued profitability will depend upon our ability to further reduce our costs. If we are unable to do so, our continued profitability may be materially and adversely affected.
In 2023, we sold nearly all of the $1.20 billion of mortgage loans held for sale that we closed. When mortgage loans are sold, whether as whole loans or pursuant to a securitization, we are required to make customary representations and warranties to purchasers, guarantors and insurers about the mortgage loans and the manner in which they were originated. We may be required to repurchase or substitute mortgage loans, or indemnify buyers against losses, in the event we breach certain representations or warranties in connection with the sale of such loans. If repurchase and indemnity demands increase, such demands are valid claims and are in excess of our provision for potential losses, our liquidity, results of operations or financial condition may be materially and adversely affected.
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The value of our mortgage servicing rights asset is subjective by nature and may be vulnerable to inaccuracies or other events outside our control.
The value of our mortgage servicing rights asset can fluctuate. Particularly, the asset could decrease in value if prepayment speeds, delinquency rates, or the cost to service increases or overall values decrease causing a lack of liquidity of MSRs in the market. Similarly, the value may decrease if interest rates decrease or change in a non-parallel manner or are otherwise volatile, all of which are mostly out of the Bank’s control. We must use estimates, assumptions and judgments when valuing this asset. An inaccurate valuation, or changes to the valuation due to factors outside of our control, could inhibit our ability to realize the full value of this asset. As a result, our balance sheet may not precisely represent the fair market value of this and other financial assets.
Our business model is materially dependent on U.S. government‐sponsored entities and government agencies, and any changes in these entities, their current roles or the leadership at such entities or their regulators could materially and adversely affect our business, financial condition, liquidity and results of operations.
Our ability to generate revenues through mortgage loan sales depends on programs administered by Government-Sponsored Enterprises, such as Fannie Mae and Freddie Mac, government agencies, including Ginnie Mae, and others that facilitate the issuance of mortgage‐backed securities in the secondary market. Presently, a significant portion of the newly originated loans that we originate directly with borrowers qualify under existing standards for inclusion in MBS issued by Fannie Mae or Freddie Mac or guaranteed by Ginnie Mae. A number of legislative proposals have been introduced in recent years that would wind down or phase out the GSEs. It is not possible to predict the scope and nature of the actions that the U.S. government will ultimately take with respect to the GSEs. Any changes in laws and regulations affecting the relationship between Fannie Mae and Freddie Mac and their regulators or the U.S. federal government, and any changes in leadership at these entities, could adversely affect our business and prospects. Any discontinuation of, or significant reduction in, the operation of Fannie Mae or Freddie Mac or any significant adverse change in their capital structure, financial condition, activity levels in the primary or secondary mortgage markets or in underwriting criteria could materially and adversely affect our business, financial condition, liquidity and results of operations.
Elimination of the traditional roles of Fannie Mae and Freddie Mac, or any changes to the nature or extent of the guarantees provided by Fannie Mae and Freddie Mac or the fees, terms and guidelines that govern our selling and servicing relationships with them, could also materially and adversely affect our ability to sell and securitize loans through our loan production segment, and the performance, liquidity and market value of our investments. Moreover, any changes to the nature of the GSEs or their guarantee obligations could redefine what constitutes an Agency MBS and could have broad adverse implications for the market and our business, financial condition, liquidity and results of operations.
Decreased residential mortgage origination volume and pricing decisions of competitors may adversely affect our profitability.
Our mortgage operation originates, sells and services residential mortgage loans. Changes in interest rates, housing prices, applicable government regulations and pricing decisions by our loan competitors may adversely affect demand for our residential mortgage loan products, the revenue realized on the sale of loans, the revenues received from servicing such loans for others and, ultimately, reduce our net income. New regulations, increased regulatory reviews, and/or changes in the structure of the secondary mortgage markets which we utilize to sell mortgage loans may increase costs and make it more difficult to operate a residential mortgage origination business. Our revenue from the mortgage banking business was $44.7 million in 2023. This revenue could significantly decline in future periods if interest rates were to rise and the other risks highlighted in this paragraph were realized, which may adversely affect our profitability.
We may incur costs, liabilities, fines and other sanctions if we fail to satisfy our mortgage loan servicing obligations.
We act as servicer for approximately $10.76 billion of mortgage loans owned by third-parties as of December 31, 2023. As a servicer for those loans, we have certain contractual obligations to third-parties. If we commit a material breach of our obligations as servicer, we may be subject to termination if the breach is not cured within a specified period of time following notice, causing us to lose servicing income. For certain investors and/or transactions, we may be contractually obligated to repurchase a mortgage loan or reimburse the investor for credit losses incurred on the loan as a remedy for origination errors with respect to the loan. If we have increased repurchase obligations because of claims that we did not satisfy our obligations as a servicer, or if we have increased loss severity on such repurchases, we may have a significant reduction to net servicing income within our mortgage banking noninterest income. In addition, we may be subject to fines and other sanctions imposed by federal or state regulators as a result of actual or perceived deficiencies in our foreclosure practices. Any of these actions may harm our reputation or negatively affect our residential lending or servicing business and, as a result, our profitability.
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LEGAL, REGULATORY AND COMPLIANCE RISK
We are subject to significant government regulation and supervision.
The Company and the Bank are subject to extensive federal and state regulation and supervision by the FDIC, Tennessee Department of Financial Institution, the Federal Reserve Board, and the CFPB, among others, the primary focus of which is to protect customers, depositors, the deposit insurance fund and the safety and soundness of the banking system as a whole, and not shareholders. The quantity and scope of applicable federal and state regulations may place banks at a competitive disadvantage compared to less regulated competitors such as financial technology companies, finance companies, credit unions, mortgage banking companies and leasing companies. These laws and regulations apply to almost every aspect of our business, and affect our lending practices and procedures, capital structure, investment activities, deposit gathering activities, our services and products, risk management practices, dividend policy and growth, including through acquisitions.
Legislation and regulation with respect to our industry has increased in recent years, and we expect that supervision and regulation will continue to expand in scope and complexity. Changes to statutes, regulations or regulatory policies, including changes in interpretation or implementation of statutes, regulations or policies, or the issuance of new supervisory guidance, could affect us in substantial and unpredictable ways, and could subject us to additional costs, restrict our growth, limit the services and products we may offer or limit the pricing of banking services and products. In addition, establishing systems and processes to achieve compliance with laws and regulation increases our costs and could limit our ability to pursue business opportunities.
If we receive less than satisfactory results on regulatory examinations, we could be subject to damage to our reputation, significant fines and penalties, requirements to increase compliance and risk management activities and related costs and restriction on acquisitions, new locations, new lines of business, or continued growth. Future changes in federal and state banking could adversely affect our operating results and ability to continue to compete effectively. For example, the Dodd-Frank Act and related regulations, including the Home Mortgage Disclosure Act, subject us to additional restrictions, oversight and reporting obligations, which have significantly increased costs. And over the last several years, state and federal regulators have focused on enhanced risk management practices, mortgage law and regulation, compliance with the Bank Secrecy Act and anti-money laundering laws, data integrity and security, use of service providers, and fair lending and other consumer protection issues, which has increased our need to build additional processes and infrastructure. Government agencies charged with adopting and interpreting laws, rules and regulations, may do so in an unforeseen manner, including in ways that potentially expand the reach of the laws, rules or regulations more than initially contemplated or currently anticipated. We cannot predict the substance or impact of pending or future legislation or regulation, or the application thereof. Compliance with such current and potential regulation and scrutiny could significantly increase our costs, impede the efficiency of our internal business processes, require us to increase our regulatory capital and limit our ability to pursue business opportunities in an efficient manner. Our success depends on our ability to maintain compliance with both existing and new laws and regulations.
Applicable laws and regulations restrict both the ability of the Bank to pay dividends to us and our ability to pay dividends to our shareholders.
The Company and the Bank are subject to various regulatory restrictions relating to the payment of dividends. In addition, the Federal Reserve has the authority to prohibit bank holding companies from engaging in unsafe or unsound practices in conducting their business. These federal and state laws, regulations and policies are described in greater detail in “Business: Supervision and regulation: Regulation of the Company and the Bank: Restrictions on dividends” and generally consider previous results and net income, capital needs, asset quality, existence of enforcement or remediation proceedings, and overall financial condition in determining whether a dividend payment is appropriate. For the foreseeable future, the majority, if not all, of our revenue will be from any dividends paid to us by the Bank. Accordingly, our ability to pay dividends also depends on the ability of the Bank to pay dividends to us. Further, the present and future dividend policy of the Bank is subject to the discretion of the Board of Directors. We cannot guarantee that we or the Bank will be permitted by financial condition or applicable regulatory restrictions to pay dividends, that the Board of Directors will elect to pay dividends to us, or the timing or amount of any dividend actually paid. See “Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities - Dividends.” If we do not pay dividends, market perceptions of our common stock may be adversely affected, which could in turn create downward pressure on our stock price.
As the parent company of the Bank, the Federal Reserve may require us to commit capital resources to support the Bank.
The Federal Reserve requires us to act as a source of strength to the Bank and to commit capital and financial resources to support the Bank. This support may be required at times when we might otherwise determine not to provide it. In addition, if we commit to a federal bank regulator that we will maintain the capital of the Bank, whether in response to the Federal Reserve’s invoking its source-of-strength authority or in response to other regulatory measures, that commitment
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will be assumed by a bankruptcy trustee and, as a result, the Bank will be entitled to priority payment in respect of that commitment, ahead of our other creditors. Thus, any borrowing that must be done by us in order to support the Bank may adversely impact our cash flow, financial condition, results of operations or prospects.
Our financial condition may be affected negatively by the costs of litigation.
We may be involved from time to time in a variety of litigation, investigations or similar matters arising out of our business. From time to time, and particularly during periods of economic stress, customers may make claims or otherwise take legal action pertaining to performance of our responsibilities. These claims are often referred to as “lender liability” claims. Whether customer claims and legal action related to the performance of our responsibilities are founded or unfounded, if such claims and legal actions are not resolved in a favorable manner, they may result in significant financial liability and/or adversely affect our market perception, products and services, as well as potentially affecting customer demand for those products and services. In many cases, we may seek reimbursement from our insurance carriers to cover such costs and expenses. These claims, as well as supervisory and enforcement actions by our regulators could involve large monetary claims, capital directives, regulatory agreements and directives and significant defense costs. The outcome of any such cases or actions is uncertain. Substantial legal liability or significant regulatory action against us could have material adverse financial effects or cause significant reputational harm to us, which in turn could seriously harm our business prospects. Our insurance may not cover all claims that may be asserted against us, and any claims asserted against us, regardless of merit or eventual outcome, may harm our reputation. Should the ultimate judgments or settlements in any litigation or investigation significantly exceed our insurance coverage, they could have a material adverse effect on our business, financial condition or results of operations.
TECHNOLOGY AND OPERATIONAL RISKS
We rely on third-party vendors to provide services that are integral to the operation of our business.
We depend on a range of third-party service providers that are integral to the operation of our business. These vendors service our mortgage loan business, provide critical core systems' processing services, essential web hosting and other internet systems, and deposit processing services. If these service providers fail to perform servicing duties or perform those duties inadequately, we could experience a temporary interruption in our business, sustain credit losses on our loans and/or incur additional costs to obtain a replacement servicer. There can be no assurance that a replacement servicer could be retained in a timely manner or at a similar cost.
Being able to maintain these relationships on favorable terms is not guaranteed. In addition, some of our data processing services are provided by companies associated with our competitors. The loss of these vendor relationships could disrupt the services we provide to our customers and cause significant expenses to replace these services. Our operations could be significantly disrupted if third-party service providers experienced their own difficulties, or terminate their services. If an interruption were to continue for a significant period, our business' financial condition and operations could be adversely affected, perhaps materially. Assuming we were able to replace third-party service providers, it may be at a higher cost. For example, if we experienced issues with our mortgage servicing provider it could result in a range of critical issues including; servicing rights becoming terminated, repurchasing of mortgage loans, and/or reimbursements to investors.
Additionally, we utilize many vendors that provide services to support our operations, including the storage and processing of sensitive consumer and business customer data. A cyber security breach of a vendor's system may result in theft and/or unavailability of our data or disruption of business processes. We could be liable to our customers for losses arising from a breach of a vendor's data security system. We rely on outsourced service providers to implement and maintain prudent cyber security controls. We have procedures in place to assess a vendor's cyber security controls prior to establishing a contractual relationship and to periodically review assessments of those control systems. However, these procedures are not infallible, and a vendor's system can be breached despite the procedures we employ.
Our risk management framework may not be effective in mitigating risks and/or losses to us.
Our risk management framework is comprised of various processes, systems, and strategies, that are designed to manage the types of risk to which we are subject, including, among others, credit, price, liquidity, interest rate and compliance risks. Our framework also includes financial or other modeling methodologies that involve management assumptions and judgment. Our risk management framework may not be effective under all circumstances and may not adequately mitigate any risk or loss to us. If our framework is not effective, we could suffer unexpected losses and our business, financial condition, results of operations or prospects could be materially and adversely affected.
System failure or breaches of our network security, including cyber-attacks or data security breaches, could subject us to increased operating costs as well as litigation among other liabilities.
The computer systems and network infrastructure we, and our vendors, use may be vulnerable to physical theft, fire, power loss, telecommunications failure or a similar catastrophic event. Additionally, security breaches, denial of service attacks, viruses, ransomware, and other disruptive problems caused by cyber criminals. Any damage or failure that
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causes breakdowns or disruptions in our client relationship management, general ledger, deposit, loan and other systems could damage our reputation, result in a loss of client business, subject us to additional regulatory scrutiny, or expose us to civil litigation and possible financial liability, any of which could have a material adverse effect on us.
Compromised computers, phishing and other disruptions could also jeopardize the security of information stored in and transmitted through our network infrastructure. A cybersecurity breach of our information systems could lead to fraudulent activity such as identity theft, losses on the part of our banking customers, additional security costs, negative publicity and damage to our reputation and brand. In addition, our customers could be subject to scams that may result in the release of sufficient information concerning themselves or their accounts to allow unauthorized access to their accounts or our systems (e.g., “phishing” and “smishing”). Claims for compensatory or other damages may be brought against us because of a breach of our systems or fraudulent activity. If we are unsuccessful in defending against such resulting claims, we may be forced to pay damages, which could materially and adversely affect our financial condition and results of operations.
Information security risks have generally increased in recent years in part because of the proliferation of new technologies, use of the internet and telecommunications technologies to conduct financial transactions, increase in remote working, and the increased sophistication and activities of organized crime, hackers, nation state supported organizations, terrorists, and other external parties. The methods used to obtain unauthorized access, disable or degrade service or sabotage systems change frequently and often are not recognized until launched against a target. We may be unable to anticipate these techniques or to implement adequate preventative measures. Further, computer viruses or malware could infiltrate our systems and disrupt our delivery of services making our applications unavailable. Although we utilize several preventative and detective security controls in our network, they may be ineffective in preventing computer viruses or malware that could damage our relationships with our merchant customers, cause a decrease in transactions by individual cardholders, or cause us to be in non-compliance with applicable network rules and regulations. In addition, a significant incident of fraud or an increase in fraud levels generally involving our products could result in reputational damage to us, which could reduce the use of our products and services. Such incidents of fraud could also lead to regulatory intervention, which could increase our compliance costs. Compliance with the various complex laws and regulations is costly and time consuming, and failure to comply could have a material adverse effect on our business. Additionally, increased regulatory requirements on our services may increase our costs, which could materially and adversely affect our business, financial condition and results of operations. Accordingly, account data breaches and related fraudulent activity could have a material adverse effect on our future growth prospects, business, financial condition and results of operations.
Our operations rely on the secure processing, transmission and storage of confidential information in our computer systems and networks. Although we believe we have robust information security procedures and controls, our encryption software, systems, vendors, and our customers’ devices themselves may become the target of cyber-attacks or information security breaches. Such events could result in the unauthorized release, gathering, monitoring, misuse, unavailability, loss, or destruction of our or our customers’ confidential, proprietary and other information, or otherwise disrupt our or our customers’ business operations. As cyber threats continue to evolve, we may be required to expend significant additional resources to continue to modify or enhance our protective measures or to investigate and remediate any information security vulnerabilities.
We are under continuous threat of loss due to organized cyber-attacks involving unauthorized access, computer hackers, computer viruses, malicious code, and other security problems and system disruptions as we continue to expand client capabilities to utilize internet and other remote channels to transact business. We have invested and intend to continue to devote significant resources to the security of our computer systems, but they may still be vulnerable to these threats. A user who circumvents security measures can misappropriate confidential or proprietary information, including information regarding us, our personnel and/or our clients, or cause interruptions or malfunctions in operations. The occurrence of any cyber-attack or information security breach could result in significant potential liabilities to customers and other third- parties, reputational damage, the disruption of our operations and regulatory concerns, all of which could materially and adversely affect our business, financial condition or results of operations. The harm to our business could be even greater if such an event occurs during a period of disproportionately heavy demand for our products or services or traffic on our systems or networks.
The financial services industry is undergoing rapid technological changes and we may not have the resources to implement new technology to stay current with these changes.
In addition to better serving customers, the effective use of technology increases efficiency and enables financial institutions to reduce costs. Our future success will depend, in part, upon our ability to address the technological needs of our customers that will satisfy client demands for convenience in addition to providing secure electronic environments. As we continue to grow and expand our market area, part of our growth strategy is to focus on expanding market share and product offerings through partnerships with financial technology companies that will supplement our existing offerings, such as blockchain-based products and/or financial solutions supported by artificial intelligence. These technological
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advances are intended to allow us to acquire new customers and generate additional core deposits at a lower cost. Many of our larger competitors have substantially greater resources to invest, and have invested significantly more than us, in technological improvements. As a result, they may be able to offer additional or more convenient products compared to those that we will be able to provide, which would put us at a competitive disadvantage. Accordingly, we may not be able to effectively implement new technology-driven products and services or be successful in marketing such products and services to our customers, which could impair our growth and profitability.
The nature of technology-driven disruption to our industry is changing, in some cases seeking to displace traditional financial service providers rather than merely enhancing traditional services or their delivery.
Technological innovation has expanded the overall market for banking services while siphoning a portion of the revenues from those services away from banks and disrupting prior methods of delivering those services. Certain recent innovations, however, may tend to replace traditional banks as financial service providers rather than merely augment those services. Similarly, innovations based on blockchain technology eventually may be the foundation for enhancing transactional security and facilitating payments throughout the banking industry, but also eventually may reduce the need for banks as secure deposit-keepers and intermediaries.
To thrive as our industry continues to change, we may need to embrace technological evolution and innovations and redefine the customs of a traditional bank, while also maintaining our commitment to our community banking approach. As a result, this type of transition creates implementation risk.In this process, it is and will continue to be critical that we understand and appreciate our clients’ experiences interacting with us and our systems, including those clients who desire traditionally-delivered services provided through our community-banking model, those who seek and embrace the latest innovations, and those who want services to be convenient, personalized, and understandable.
We are subject to certain operational risks, including, but not limited to, client or employee fraud.
Employee errors and employee and client misconduct could subject us to financial losses or regulatory sanctions and seriously harm our reputation. Misconduct by our employees could include hiding unauthorized activities from us, improper or unauthorized activities on behalf of our customers or improper use of confidential information. It is not always possible to prevent employee errors and misconduct, and the precautions we take to prevent and detect this activity may not be effective in all cases. Employee errors could also subject us to financial claims for negligence. Check fraud perpetrated by others who are not employees or clients could also result in financial losses. We maintain a system of internal controls and insurance coverage to mitigate against these operational risks. If our internal controls fail to prevent or detect an occurrence, or if any resulting loss is not insured or exceeds applicable insurance limits, it could have a material adverse effect on our business, financial condition, or results of operations.
We rely heavily upon information supplied by third-parties, including information contained in credit applications, property appraisals, title information, equipment pricing and valuation and employment and income documentation, in deciding which loans we originate, as well as the terms of those loans. If any such data is misrepresented, either fraudulently or inadvertently, and the misrepresentation is not detected prior to asset funding, the value of the asset may be significantly lower than expected, or we may fund a loan that we would not have funded or on terms we would not have extended.
The impact of widespread health emergencies, catastrophic events, or natural disasters adversely affect our business, financial condition, liquidity, and results of operations.
A significant portion of our business is in the Southeast and includes areas which are susceptible to weather-related events such as tornadoes, floods, droughts, and fires. Recently, the COVID-19 pandemic negatively impacted global, national, and local economies, disrupted global supply chains, and created significant volatility and disruption in financial markets. Such events can disrupt our operations and negatively affect our business and the economies in which we operate. These events may also have a negative impact on the financial condition of our clients, which may decrease revenues from those clients and increase the credit risk associated with loans and other credit exposures to those clients.
In addition, geopolitical matters such as international trade disputes, political unrest, cyber-attacks or campaigns, and slow growth in the global economy, as well as acts of terrorism, war, and other violence could result in disruptions in the financial markets or the markets that we serve. These negative events could have a material adverse effect on our results of operations or financial condition and may affect our ability to access capital.
STRATEGIC AND OTHER BUSINESS RISKS
Our strategy of pursuing acquisitions exposes us to risk.
We intend to pursue a strategy that includes acquisition and consolidation opportunities within our core markets and beyond. The market for any such acquisition targets is highly competitive, which may adversely affect our ability to find acquisition candidates that fit our strategy and our standards. Acquisitions of financial institutions also involve operational risks and uncertainties, such as the time and expense associated with identifying and evaluating potential acquisition targets and negotiating terms or potential transactions, which could result in our attention being diverted from the
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operation of our existing business. Also, all acquisitions are subject to various regulatory approvals, and if we were unable to obtain such approvals for any reason, it would impair our ability to consummate acquisitions.
We have a shareholder who owns a significant portion of our stock and that shareholders' interests in our business may be different than our other shareholders.
Mr. Ayers, the Company's former Chairman, currently owns approximately 23% of our common stock. Further, Mr. Ayers has the right under the shareholder's agreement, by and between the Company and Mr. Ayers and entered into in connection with the Company's initial public offering, to designate up to 20% of our directors and at least one member of the nominating and corporate governance and compensation committees of our board of directors for so long as permitted under applicable law. So long as Mr. Ayers continues to own a significant portion of our common stock, he will have the ability to influence the vote in any election of directors and will have the ability to significantly influence a vote regarding a transaction that requires shareholder approval regardless of whether others believe the transaction is in our best interests. In any of these matters, the interests of Mr. Ayers may differ from or conflict with the interests of our other shareholders. Moreover, this concentration of stock ownership may also adversely affect the trading price of our common stock to the extent investors perceive disadvantages in owning stock of a company with a significant shareholder.
We could be required to write down goodwill and other intangible assets.
At December 31, 2023, our goodwill and other identifiable intangible assets were $251.3 million. Under current accounting standards, if we determine goodwill or intangible assets are impaired because, for example, the acquired business does not meet projected revenue targets or credit losses are dramatically higher than anticipated, we are required to write down the carrying value of these assets. We conduct a review at least annually to determine whether goodwill is impaired. Our goodwill impairment evaluation indicated no impairment of goodwill for our reporting segments. We cannot provide assurance, however, that we will not be required to take an impairment charge in the future. Any impairment charge would have an adverse effect on our shareholders' equity and financial results and could cause a decline in our stock price.
GENERAL RISKS
We face strong competition from financial services companies and other companies that offer banking services.
We conduct our banking operations primarily in Tennessee, with our largest market being the Nashville MSA, which is a highly competitive banking market. Many of our competitors offer the same, or a wider variety of, banking services within our market areas, and we compete with them for the same customers. These competitors include banks with nationwide operations, regional banks and community banks. In many instances these national and regional banks have greater resources than we do, and the smaller community banks may have stronger ties in local markets than we do, which may put us at a competitive disadvantage. We also face competition from many other types of financial institutions, including thrift institutions, finance companies, brokerage firms, insurance companies, credit unions, mortgage banks and other internet-based companies offering financial services which enjoy fewer regulatory constraints and some may have lower cost structures. In addition, a number of out-of-state financial institutions have opened offices and solicit deposits in our market areas. Increased competition in our markets may result in reduced loans and deposits, as well as reduced net interest margin and profitability. If we are unable to attract and retain banking customers, we may be unable to continue to grow our loan and deposit portfolios, and our business, financial condition or results of operations may be adversely affected.
Further, a number of larger banks have recently entered the Nashville MSA, and we believe this trend will continue as banks look to gain a foothold in this growing market. This trend will likely result in greater competition in and may impair our ability to grow our share of our largest market.
Holders of our subordinated debentures have rights that are senior to those of our common shareholders.
We have supported a portion of our growth through the issuance of subordinated notes which are senior in rank to our shares of common stock. As a result, we must make payments on the subordinated notes before any dividends can be paid on our common stock and, in the event of our bankruptcy, dissolution or liquidation, the holders of the subordinated notes must be satisfied before any distributions can be made on our common stock.
New lines of business, products, product enhancements or services may subject us to additional risks.
From time to time, we may implement or acquire new lines of business or offer new products and product enhancements as well as new services within our existing lines of business. There are substantial risks and uncertainties associated with these efforts. In acquiring, developing or marketing new lines of business, products, product enhancements or services, we may invest significant time and resources, although there is no guarantee that these new lines of business, products, product enhancements or services will be successful or that we will realize their expected benefits. Further, initial timetables for the introduction and development of new lines of business, products, product enhancements or services may not be achieved, and price and profitability targets may not prove feasible. External factors, such as compliance with regulations, competitive alternatives and shifting market preferences, may also impact the ultimate implementation and
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success of new lines of business or offerings of new products, product enhancements or services. Furthermore, any new line of business, product, product enhancement or service could have a significant impact on the effectiveness of our system of internal controls. Failure to successfully manage these risks in the development and implementation of new lines of business or offerings of new products, product enhancements or services could have a material adverse effect on our business, financial condition or results of operation.
Consumers may decide not to use banks to complete their financial transactions.
Technology and other changes are allowing parties to complete, through alternative methods and delivery channels, financial transactions that historically have involved banks. For example, consumers can now maintain funds that would have historically been held as bank deposits in brokerage accounts, mutual funds with an Internet-only bank, or with virtually any bank in the country through online or mobile banking. Consumers can also complete transactions such as purchasing goods and services, paying bills and/or transferring funds directly without the assistance of banks by transacting through non-bank enterprises or through the use of emerging payment technologies such as cryptocurrencies. The process of eliminating banks as intermediaries could result in the loss of fee income, as well as the loss of customer deposits and the related income generated from those deposits. The loss of these revenue streams and the lower-cost deposits as a source of funds could have an adverse effect on our financial condition, results of operations and liquidity.
We depend on the accuracy and completeness of information about customers.
In deciding whether to extend credit or enter certain transactions, we rely on information furnished by or on behalf of customers, including financial statements, credit reports, tax returns and other financial information. We may also rely on representations of those customers or other third-parties, such as independent auditors, as to the accuracy and completeness of that information. Reliance on inaccurate or misleading personal information, financial statements, credit reports, tax returns or other financial information, including information falsely provided because of identity theft, could have an adverse effect on our business, financial condition and results of operations.
Negative publicity could impact our reputation.
Reputational risk is inherent in our business. Negative public opinion could adversely affect our ability to keep and attract customers and could expose us to adverse legal and regulatory consequences. Negative public opinion could result from our actual, alleged, or perceived conduct related to employees or banking practices. Such negative public opinion could ultimately impact our earnings and stock price.
Recent volatility in the banking industry, and responsive measures to manage it, could have an adverse effect on our financial position or results of operations.
In recent months, several financial institutions have failed or required outside liquidity support. These events have created the risk of additional stress to other financial institutions and the banking industry generally as a result of increased lack of confidence in the financial sector. U.S. and international regulators have taken action in an effort to strengthen public confidence in the banking system, including the creation of a new Bank Term Funding Program and international coordination to enhance the provision of liquidity via the standing U.S. dollar liquidity swap line arrangements. There can be no assurance that these actions will stabilize the financial services industry and financial markets. While we currently do not anticipate liquidity constraints of the kind that caused certain other banks to fail or require external support, constraints on our liquidity could occur as a result of unanticipated deposit withdrawals because of market distress or our inability to access other sources of liquidity, including through the capital markets due to unforeseen market dislocations or interruptions. Moreover, some of our customers may become less willing to maintain deposits at our bank because of broader market concerns with the level of insurance available on those deposits. Our business and our financial condition and results of operations could be adversely affected by continued soundness concerns regarding financial institutions generally and our counterparties specifically and limitations resulting from further governmental action in an effort to stabilize or provide additional regulation of the financial system as well as the impact of excessive deposit withdrawals.
Additionally, the recent events in the banking sector may lead to governmental initiatives intended to prevent future bank failures and stem significant deposit outflows from the banking sector, including (i) legislation aimed at preventing similar future bank runs and failures and stabilizing confidence in the banking sector over the long term, (ii) agency rulemaking to modify and enhance relevant regulatory requirements, specifically with respect to liquidity risk management, deposit concentrations, capital adequacy, stress testing and contingency planning, and safe and sound banking practices, and (iii) enhancement of the agencies’ supervision and examination policies and priorities. Although we cannot predict with certainty which initiatives may be pursued by lawmakers and agency leadership, nor can we predict the terms and scope of any such initiatives, any of the potential changes referenced above could, among other things, subject us to additional costs, limit the types of financial services and products we may offer, and limit our future growth, any of which could materially and adversely affect our business, results of operations or financial condition.
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ITEM 1B - Unresolved Staff Comments
None.
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ITEM 1C- Cybersecurity
Strategy and program oversight
We recognize the critical importance of developing, implementing, assessing and maintaining appropriate cybersecurity measures to safeguard our information systems and protect the confidentiality, integrity and availability of our data. The Risk Committee of the Board of Directors oversees management's processes for identifying and mitigating risks, including cybersecurity risks. Our Chief Information Security Officer is primarily responsible for the implementation of risk mitigation strategies. Our CISO has over 35 years of information technology and cybersecurity experience. He has held the title of CISO and has been in this role since 2018. The CISO is supported by his direct reports and their teams, many of whom hold cybersecurity-related certifications. Our CISO regularly briefs the Risk Committee of the Board of Directors on our cybersecurity and information security posture. Recognizing the complexity and evolving nature of cybersecurity threats, we engage with a range of external experts in addition to our experienced information security team. These external experts include cybersecurity assessors, consultants and auditors in evaluating and testing our cybersecurity risk management systems. These partnerships enable us to leverage specialized knowledge and insights, ensuring our cybersecurity strategies and processes remain at the forefront of industry and best practices. Our collaboration with these entities includes regular audits, threat assessments and consultation on security enhancements.
Integrated risk management
We have strategically integrated cybersecurity risk management into our broader risk management framework to promote a company-wide culture of cybersecurity risk management. This integration ensures that cybersecurity considerations are an integral part of our decision-making processes at every level. Key Risk Indicators, established in conjunction with Board approved Statement of Risk Appetite, are reported to the Information Technology Steering Committee, Risk Management Committee and the Risk Committee of the Board of Directors on at least a quarterly basis. The Board’s Risk Committee is provided an information security update on an annual basis. This escalation process provides for communication of any needed mitigation and remediation efforts related to cybersecurity risks.
We have implemented a comprehensive set of information security policies, standards, and related trainings to promote awareness for prevention and detection of cybersecurity risk. Every employee is required to review, acknowledge, and/or complete the information security framework in connection with the employee’s onboarding process at the time they are hired. Additionally, each employee is required to formally review and understand any changes to these policies and standards and complete additional training on at least an annual basis. These policies, standards, and trainings address, but are not limited to, the following topics: data privacy and security, password protection, internet use, computer equipment and software use, e-mail use, risks associated with social engineering, and best-practices and safety. Our internal audit team and bank examiners audit and review our information security program and risk mitigations on an annual basis. Additionally, external auditors audit specific components of the information security program as part of the annual financial statements audit. We adhere to and implement NIST guidelines and utilize the American Banker's Association recommended Cyber Risk Institute Profile to annually evaluate our information security practices.
Because we are aware of the risks associated with third-party service providers, we implement processes to oversee and manage these risks. We conduct thorough security assessments of third-party providers before engagement and maintain ongoing monitoring to ensure compliance with our cybersecurity standards. The Third-Party Risk Management department reports to our CISO.
The Company also maintains coverage under a cyber security insurance policy. Levels of coverage are reviewed periodically to ensure alignment with the organization’s risk appetite.
To our knowledge, cybersecurity threats, including as a result of any previous cybersecurity incidents, have not materially affected the Company, including its business strategy, results of operations or financial condition. With regard to the possible impact of future cybersecurity threats or incidents, see "Item 1A - Risk Factors - Technology and Operational Risks."
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ITEM 2 - Properties
Our principal executive offices and FirstBank’s main office are located at 1221 Broadway, Suite 1300 Nashville, Tennessee. We have banking locations in the Tennessee metropolitan markets of Nashville, Chattanooga, Knoxville, Memphis, and Jackson in addition to the metropolitan markets of Birmingham, Huntsville and Florence, Alabama and Bowling Green, Kentucky. As of December 31, 2023, we operated 81 full-service bank branches and 9 limited service branch locations throughout our geographic market areas as well as 15 mortgage offices throughout the southeastern United States. We also operate in 17 community markets throughout our footprint. See “Item 1. Business – Our Markets” for more detail. We own 72 of these banking locations and lease our other locations, which include nearly all of our mortgage offices and our principal executive office. We believe that our offices and banking locations are in good condition, are suitable to our needs and, for the most part, are relatively new or refurbished. Additionally, we continue to upgrade our properties to make them more energy efficient and protect the environment.
ITEM 3 - Legal Proceedings
Various legal proceedings to which FB Financial Corporation or a subsidiary of FB Financial Corporation is party arise from time to time in the normal course of business. As of the date hereof, there are no material pending legal proceedings to which FB Financial Corporation or any of its subsidiaries is a party or of which any of its or its subsidiaries' assets or properties are subject.
ITEM 4 - Mine Safety Disclosures
Not applicable.
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PART II
ITEM 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.
Market Information and Holders of Record
FB Financial Corporation's common stock is traded on the New York Stock Exchange under the symbol “FBK” and has traded on that market since September 16, 2016.
The Company had approximately 2,272 stockholders of record as of February 13, 2024. A substantially greater number of holders of FBK common stock are “street name” or beneficial holders, whose shares of record are held by banks, brokers and other financial institutions.
Stock Performance Graph
The performance graph and table below compares the cumulative total stockholder return on the common stock of the Company with the cumulative total return on the equity securities included in the Standard & Poor’s 500 Index (S&P 500), which reflects overall stock market performance and the S&P 500 Bank Industry Group, which is a Global Industry Classification Standard Level 2 industry group consisting of 15 regional and national publicly traded banks. The graph assumes an initial $100 investment on December 31, 2018 through December 31, 2023. Data for the S&P 500 and S&P 500 Bank Industry Group assumes reinvestment of dividends. Returns are shown on a total return basis. The performance graph represents past performance and should not be considered to be an indication of future performance. The information in this paragraph and the following stock performance graph shall not be deemed to be “soliciting material” or to be “filed” with the SEC or subject to Regulation 14A or 14C, other than as provided in Item 201 of Regulation S-K, or to the liabilities of Section 18 of the Exchange Act, except to the extent that we specifically request that such information be treated as soliciting material or specifically incorporate it by reference into a filing under the Securities Act or the Exchange Act.
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Index
Source: S&P Global Market Intelligence
Dividends
We declared cash dividends on our common stock of $0.60 per share for the year ended December 31, 2023, compared to $0.52 per share for the year ended December 31, 2022. The timing and amount of future dividends are at the discretion of the Board of Directors and will depend upon a number of factors including general and economic conditions, industry standards, our financial condition and operating results, our available cash and current and anticipated cash needs, capital requirements, banking regulations, contractual, legal, tax and regulatory restrictions and implications on the payment of dividends by us to our shareholders or by the Bank to us, and such other factors as our Board of Directors may deem relevant. Our Board of Directors anticipates that we will continue to pay quarterly dividends in amounts determined based on the factors discussed above. However, there can be no assurance that we will continue to pay dividends on our common stock at the current levels or at all. For a more complete discussion on the restrictions on dividends, see “Business: Supervision and regulation: Regulation of the Company and the Bank: Restrictions on dividends” and Note 13 “Dividend restrictions” in the notes to the consolidated financial statements.
Stock Repurchase Program
The following table provides information about repurchases of common stock by the Company during the quarter ended December 31, 2023:
(1) Amounts are inclusive of commissions and fees related to the stock repurchases.
On March 14, 2022, the Company announced the board of directors’ authorization of a share repurchase program pursuant to which the Company may purchase up to $100 million in shares of the Company’s issued and outstanding common stock. The Company purchased 136,262 shares pursuant to this plan during the year ended December 31, 2023. The purchase authorizations granted under the repurchase plan will terminate either on the date on which the maximum dollar amount is repurchased under the repurchase plan or on January 31, 2024, whichever date occurs earlier. The repurchase plan will be conducted pursuant to a written plan and is intended to comply with Rule 10b-18 promulgated under the Securities Exchange Act of 1934, as amended.
Sale of Equity Securities
The Company did not sell any unregistered equity securities during 2023.
ITEM 6 — [RESERVED]
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ITEM 7 — Management's Discussion and Analysis of Financial Condition and Results of Operations
Overall Objective
The following is a discussion of our financial condition at December 31, 2023 and 2022, and our results of operations for the years ended December 31, 2023 and 2022, and should be read in conjunction with our audited consolidated financial statements included elsewhere herein. The purpose of this discussion is to focus on information about our financial condition and results of operations which is not otherwise apparent from our consolidated financial statements. This discussion and analysis contains forward-looking statements that are subject to certain risks and uncertainties and are based on certain assumptions that we believe are reasonable but may prove to be inaccurate. Certain risks, uncertainties and other factors, including those set forth in the “Cautionary note regarding forward-looking statements” and “Risk Factors” sections of this Annual Report, may cause actual results to differ materially from those projected results discussed in the forward-looking statements appearing in this discussion and analysis. We assume no obligation to update any of these forward-looking statements. Discussion and analysis of our financial condition and results of operations for the years ended December 31, 2022 and 2021 are included in the respective sections within “Item 7 - Management's Discussion and Analysis of Financial Condition and Results of Operations” of our Annual Report filed on Form 10-K with the SEC for the year ended December 31, 2022.
Overview
We are a financial holding company headquartered in Nashville, Tennessee. We operate primarily through our wholly-owned bank subsidiary, FirstBank. FirstBank provides a comprehensive suite of commercial and consumer banking services to clients in select markets in Tennessee, Kentucky, Alabama and North Georgia. As of December 31, 2023, our footprint included 81 full-service branches serving the following Tennessee Metropolitan Statistical Areas: Nashville, Chattanooga (including North Georgia), Knoxville, Memphis, and Jackson in addition to Bowling Green, Kentucky and Birmingham, Florence and Huntsville, Alabama. We also provide banking services to 17 community markets throughout Tennessee, Alabama and North Georgia. FirstBank also provides mortgage banking services utilizing its bank branch network and mortgage banking offices strategically located throughout the southeastern United States. As of December 31, 2023, we had total assets of $12.60 billion, loans held for investment of $9.41 billion, total deposits of $10.55 billion, and total shareholders’ equity of $1.45 billion.
We operate through two segments, Banking and Mortgage. We generate most of our revenue in our Banking segment from interest on loans and investments, loan-related fees, trust and investment services and deposit-related fees. Our primary source of funding for our loans is customer deposits, and, to a lesser extent, unsecured credit lines, brokered and internet deposits, and other borrowings. We generate most of our revenue in our Mortgage segment from origination fees and gains on sales in the secondary market of mortgage loans, as well as from mortgage servicing revenues.
Key factors affecting our business
Recent banking events
The banking sector experienced significant volatility during the year ended December 31, 2023, including high-profile bank failures, continuing interest rate hikes and recessionary concerns. We have proactively positioned our balance sheet to mitigate the risks affecting the Company and the overall banking industry in order to serve our clients and communities.
As of December 31, 2023, we carried on-balance sheet liquidity of $1.35 billion. We maintain the ability to access $7.08 billion of contingent liquidity from the FHLB, Federal Reserve, brokered CDs, and unsecured lines of credit. Our AFS debt securities portfolio is 11.7% of total assets and we do not maintain any held-to-maturity investment securities. Management considers our current liquidity position to be more than adequate to meet both short-term and long-term liquidity needs. Refer to the section “Liquidity and capital resources” for additional information.
Further, the capital ratios of the Company and the Bank are well above the standards to be considered well-capitalized under regulatory requirements. Refer to the section “Shareholders' equity and capital management” for additional details.
Non-performing assets were 0.69% of total assets as of December 31, 2023 and annualized net charge-offs were 0.01% of average loans HFI during the year ended December 31, 2023, which we believe reflects our disciplined underwriting and conservative lending philosophy. Refer to the section “Asset quality” for additional information.
While the March 2023 high-profile bank failures and other concerns have impacted the entire banking industry, and future events cannot be predicted, we remain committed to safe and sound community banking practices that have been a cornerstone of the Company's values and historical performance.
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Interest rates
Net interest income is the largest contributor to our net income and is the difference between the interest and fees earned on interest-earning assets (primarily loans, investment securities and interest-bearing deposits with other financial institutions) and the interest expense incurred in connection with interest-bearing liabilities (primarily deposits and borrowings). The level of net interest income is primarily a function of the average balance of interest-earning assets, the average balance of interest-bearing liabilities and the spread between the contractual yield on such assets and the contractual cost of such liabilities. These factors are influenced by both the pricing and mix of interest-earning assets and interest-bearing liabilities which, in turn, are impacted by external factors such as local economic conditions, competition for loans and deposits, the monetary policy of the Federal Reserve Board and market interest rates.
The cost of our deposits and short-term wholesale borrowings is largely based on short-term interest rates, which are primarily driven by the Federal Reserve’s actions. The yields generated by our loans and securities are typically driven by short-term and long-term interest rates, which are market driven and are, at times, heavily influenced by the Federal Reserve’s actions. The level of net interest income is therefore influenced by movements in such interest rates and the pace at which such movements occur.
Interest rates increased throughout the year ended December 31, 2023. Volatile interest rates could have significant adverse effects on the earnings, financial condition and results of operations of the Company.
For additional information regarding our interest rate risks factors and management, see “Business: Risk management: Liquidity and interest rate risk management” and “Risk factors: Risks related to our business.”
Credit trends
We focus on originating quality loans and have established loan approval policies and procedures to assist us in upholding the overall credit quality of our loan portfolio. However, credit trends in the markets in which we operate and in our loan portfolio can materially impact our financial condition and performance and are primarily driven by the economic conditions in our markets.
During 2023, our percentage of total nonperforming loans to loans HFI increased to 0.65% as of December 31, 2023, from 0.49% as of December 31, 2022. Our classified loans increased to 0.74% of loans HFI as of December 31, 2023, compared to 0.56% as of December 31, 2022. Our nonperforming assets as of December 31, 2023 were $86.5 million, or 0.69% of total assets compared to $87.5 million, or 0.68% of assets as of December 31, 2022.
Our net provisions for credit losses on loans HFI and unfunded loan commitments resulted in an expense of $2.5 million for the year ended December 31, 2023 compared to an expense of $19.0 million for the year ended December 31, 2022. For the year ended December 31, 2023, our expense was comprised of $16.7 million of provision for credit losses on loans HFI and $14.2 million related to reversals of credit losses on unfunded commitments. The current period expense is the result of declines in economic outlooks and forecasts which impacted our loss estimation process. These evaluations weighed the impact of the current economic outlook, including unemployment, supply chain concerns, global conflicts and other considerations. Although the portfolio was impacted by worsening economic outlooks and forecasts, management's concentrated effort to reduce unfunded loan commitments from December 31, 2022 in specific categories judged to be inherently higher risk considering the current and projected economic conditions resulted in a $913.2 million decrease in our construction category as these projects moved to permanent financing. As such, the decrease resulted in a $14.2 million decrease in required ACL related to the unfunded commitments in our construction portfolio. See further discussion under the subheading “Allowance for credit losses.”
For additional information regarding credit quality risk factors for our Company, see “Item 1. Business: Risk management: Credit risk management” and “Item 1A. Risk factors: Credit Risks.”
Competition
Our profitability and growth are affected by the highly competitive nature of the financial services industry. We compete with commercial banks, savings banks, credit unions, non-bank financial services companies, online mortgage providers, internet banks and other financial institutions operating within the areas we serve, particularly with national and regional banks that often have more resources than we do to invest in growth and technology and community banks with strong local ties, all of which target the same clients we do. Recently, we have seen increased competitive pressures on deposit rates. Continued deposit pricing pressure may continue to affect our financial results in the future.
For additional information, see “Item 1. Business: Our markets,” “Business: Competition” and “Item 1A. Risk factors: Risks related to our business.”
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Regulatory trends and changes in laws
We are subject to extensive regulation and supervision, which continue to evolve as the legal and regulatory framework governing our operations continues to change. The current operating environment also has heightened supervisory expectations in areas such as consumer compliance, BSA and anti-money laundering compliance, risk management and internal audit. We expect to incur increased costs for compliance, risk management and audit personnel or professional fees associated with advisors and consultants due the current economic environment.
As described further under “Business: Supervision and regulation,” we are subject to a variety of laws and regulations, including the Dodd-Frank Act. See also “Item 1A. Risk factors: Legal, regulatory and compliance risk.”
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Financial highlights
The following table presents certain selected historical consolidated income statement data and key indicators as of the dates or for the years indicated. Our historical results for any prior period are not necessarily indicative of results to be expected in any future period.
As of or for the years ended December 31,
Selected Balance Sheet Data
Allowance for credit losses on unfunded commitments 8,770 22,969 14,380
Selected Statement of Income Data
Net income applicable to noncontrolling interest 16 16 16
Per Common Share
Selected Ratios
Return on average:
Core efficiency ratio (tax-equivalent basis)(2) 62.9 % 62.7 % 65.8 %
Loans HFI to deposit ratio 89.2 % 85.7 % 70.2 %
Net interest margin (tax-equivalent basis) 3.44 % 3.57 % 3.19 %
Yield on interest-earning assets 5.72 % 4.16 % 3.53 %
Cost of interest-bearing liabilities 3.16 % 0.87 % 0.48 %
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As of or for the years ended December 31,
Credit Quality Ratios
Net charge-offs as a percentage of average loans HFI (0.01) % (0.02) % (0.08) %
Nonperforming loans HFI as a percentage of loans HFI 0.65 % 0.49 % 0.62 %
Nonperforming assets as a percentage of total assets(4) 0.69 % 0.68 % 0.50 %
Capital Ratios (Company)
Total common shareholders' equity to assets 11.5 % 10.3 % 11.4 %
Tangible common equity to tangible assets(2) 9.74 % 8.50 % 9.51 %
(1)Book value per share equals our total common shareholders’ equity divided by the number of shares of our common stock outstanding as of the date presented.
(2)Non-GAAP financial measure; See "GAAP reconciliation and management explanation of non-GAAP financial measures” and non-GAAP reconciliations herein.
(3)ROAA and ROAE is calculated by dividing annualized net income or loss for that period by our average assets or average equity for the same period.
(4)Includes $21,229 and $26,211 of optional rights to repurchase delinquent GNMA loans as of December 31, 2023 and 2022, respectively. There were no such loans as of December 31, 2021.
GAAP reconciliation and management explanation of non-GAAP financial measures
We identify certain financial measures discussed in this Report as being “non-GAAP financial measures.” The non-GAAP financial measures presented in this Report are adjusted efficiency ratio (tax-equivalent basis), tangible book value per common share, tangible common equity to tangible assets and return on average tangible common equity.
In accordance with the SEC's rules, we classify a financial measure as being a non-GAAP financial measure if that financial measure excludes or includes amounts, or is subject to adjustments that have the effect of excluding or including amounts, that are included or excluded, as the case may be, in the most directly comparable measure calculated and presented in accordance with GAAP as in effect from time to time in the United States in our consolidated statements of income, balance sheets or statements of cash flows.
The non-GAAP financial measures that we discuss in this Report should not be considered in isolation or as a substitute for the most directly comparable or other financial measures calculated in accordance with GAAP. Moreover, the manner in which we calculate the non-GAAP financial measures that we discuss in our selected historical consolidated financial data may differ from that of other companies reporting measures with similar names. You should understand how such other banking organizations calculate their financial measures similar or with names similar to the non-GAAP financial measures we have discussed in our selected historical consolidated financial data when comparing such non-GAAP financial measures. The following reconciliation tables provide a more detailed analysis of these, and reconciliation for, each of non-GAAP financial measures.
Core efficiency ratio (tax-equivalent basis)
The core efficiency ratio (tax-equivalent basis) is a non-GAAP measure that excludes certain gains (losses), merger and offering-related expenses and other selected items. Our management uses this measure in its analysis of our performance. Our management believes this measure provides a greater understanding of ongoing operations and enhances comparability of results with prior periods, as well as demonstrates the effects of significant gains and charges. The most directly comparable financial measure calculated in accordance with GAAP is the efficiency ratio.
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The following table presents, as of the dates set forth below, a reconciliation of our core efficiency ratio (tax-equivalent basis) to our efficiency ratio:
Years Ended December 31,
Core efficiency ratio (tax-equivalent basis)
Less early retirement, severance and other costs 8,449 — —
Less loss (gain) on lease terminations 1,770 (18) (805)
Less FDIC special assessment 1,788 — —
Less mortgage restructuring — 12,458 —
Less offering expenses — — 605
Less certain charitable contributions — — 1,422
Less (loss) gain from securities, net (13,973) (376) 324
Less loss on swap cancellation — — (1,510)
Core efficiency ratio (tax-equivalent basis) 62.9 % 62.7 % 65.8 %
Tangible book value per common share and tangible common equity to tangible assets
Tangible book value per common share and tangible common equity to tangible assets are non-GAAP measures that exclude the impact of goodwill and other intangibles used by the Company’s management to evaluate capital adequacy. Because intangible assets such as goodwill and other intangibles vary extensively from company to company, we believe that the presentation of this information allows investors to more easily compare the Company’s capital position to other companies. The most directly comparable financial measure calculated in accordance with GAAP is book value per common share and our total shareholders’ equity to total assets.
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The following table presents, as of the dates set forth below, tangible common equity compared with total shareholders’ equity, tangible book value per common share compared with our book value per common share and common equity to tangible assets compared to total shareholders’ equity to total assets:
As of December 31,
(dollars in thousands, except share and per share data) 2023 2022 2021
Tangible assets
Adjustments:
Tangible common equity
Adjustments:
Total common shareholders' equity to total assets 11.5 % 10.3 % 11.4 %
Tangible common equity to tangible assets 9.74 % 8.50 % 9.51 %
Return on average tangible common equity
Return on average tangible common equity is a non-GAAP measure that uses average shareholders' equity and excludes the impact of goodwill and other intangibles. This measurement is used by the Company's management to provide a depiction of the Company's profitability without being impacted by its intangible assets, as intangible assets are not directly managed to generate earnings. The following table presents, as of the dates set forth below, reconciliations of total average tangible common equity to average shareholders' equity and return on average tangible common equity to return on average shareholders' equity:
Years Ended December 31,
Return on average tangible common equity
Adjustments:
Return on average common shareholders' equity 8.74 % 9.23 % 14.0 %
Return on average tangible common equity 10.7 % 11.4 % 17.3 %
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Overview of recent financial performance
Year ended December 31, 2023 compared to the year ended December 31, 2022
Our net income decreased during the year ended December 31, 2023 to $120.2 million from $124.6 million for the year ended December 31, 2022. Diluted earnings per common share was $2.57 and $2.64 for the years ended December 31, 2023 and 2022, respectively. Our net income represented a return on average assets of 0.95% and 1.01% for the years ended December 31, 2023 and 2022, respectively, and a return on average equity of 8.74% and 9.23% for the same periods. Our ratio of return on average tangible common equity for the years ended December 31, 2023 and 2022 was 10.7% and 11.4%, respectively. See “GAAP reconciliation and management explanation of non-GAAP financial measures” in this Report for a discussion of tangible common equity and return on average tangible common equity.
During the year ended December 31, 2023, net interest income decreased to $407.2 million compared with $412.2 million in the year ended December 31, 2022. Our net interest margin, on a tax-equivalent basis, decreased to 3.44% for the year ended December 31, 2023 as compared to 3.57% for the year ended December 31, 2022, influenced by rising interest rates increasing our total cost of funds compared to the increase in the interest income on interest-earning assets during the year ended December 31, 2023.
Provision for credit losses on loans HFI and unfunded loan commitments was $2.5 million for the year ended December 31, 2023 compared $19.0 million for the year ended December 31, 2022 primarily due to a reversal of provision for credit losses on unfunded commitments of $14.2 million compared to provision expense of $8.6 million during the year ended December 31, 2022. Refer to the section “Provision for credit losses” for additional information.
Noninterest income for the year ended December 31, 2023 decreased by $44.1 million to $70.5 million, down from $114.7 million for prior year period. The decrease in noninterest income was primarily driven by a decrease in mortgage banking income of $28.9 million to $44.7 million for the year ended December 31, 2023, compared to $73.6 million for the prior year period. These results were impacted by increasing interest rates, compressing margins and a decrease in demand for residential mortgages experienced through the industry during the year ended December 31, 2023 compared with the year ended December 31, 2022. The change was also impacted by the restructuring of our mortgage business (referred to herein as “Mortgage restructuring”), including the exit of our direct-to-consumer internet delivery channel during the year ended December 31, 2022. Refer to the section “Noninterest expense” for additional information on the restructuring of our Mortgage segment. Additionally contributing to the decrease in noninterest income during the year ended December 31, 2023 was a $14.0 million net loss on investment securities primarily related to the sale of $100.5 million of AFS securities. Refer to the section “Other earnings assets” for additional information on the sale of the AFS securities.
Noninterest expense decreased to $324.9 million for the year ended December 31, 2023, compared with $348.3 million for the year ended December 31, 2022. The decrease in noninterest expense is reflective of the $28.3 million decrease in salaries, commissions and employee-related costs namely in the Mortgage segment related to the restructuring of our Mortgage segment, reduced headcount and mortgage production. Additionally, this decrease in salaries, commission and employee-benefit related costs was partially offset by an $8.4 million increase in early retirement, severance and other costs related to our efficiency and scalability initiatives and $4.7 million in regulatory fees and assessments, which includes a $1.8 million FDIC special assessment associated with the bank failures earlier in 2023. Additionally, the decrease in noninterest expense reflects $12.5 million in mortgage restructuring expenses included in expenses in the year ended December 31, 2022.
Year ended December 31, 2022 compared to year ended December 31, 2021
Our net income decreased during the year ended December 31, 2022 to $124.6 million from $190.3 million for the year ended December 31, 2021. Diluted earnings per common share was $2.64 and $3.97 for the years ended December 31, 2022 and 2021, respectively. Our net income represented a return on average assets of 1.01% and 1.61% for the years ended December 31, 2022 and 2021, respectively, and a return on average equity of 9.23% and 14.0% for the same periods. Our ratio of return on average tangible common equity for the years ended December 31, 2022 and 2021 was 11.4% and 17.3%, respectively. See “GAAP reconciliation and management explanation of non-GAAP financial measures” in this Report for a discussion of tangible common equity and return on average tangible common equity.
These results were significantly impacted by the economic forecasts incorporated in our current expected credit loss rate model, leading to a provision for credit losses on loans held for investment and unfunded loan commitments of $19.0 million for the year ended December 31, 2022 compared with a reversal in our provision for credit losses of $41.0 million for the year ended December 31, 2021.
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During the year ended December 31, 2022, net interest income increased to $412.2 million compared with $347.4 million in the year ended December 31, 2021. Our net interest margin, on a tax-equivalent basis, increased to 3.57% for the year ended December 31, 2022 as compared to 3.19% for the year ended December 31, 2021, influenced by rising interest rates and growth in loans HFI volume during the year ended December 31, 2022.
Noninterest income for the year ended December 31, 2022 decreased by $113.6 million to $114.7 million, down from $228.3 million for the prior year period. The decrease in noninterest income was primarily driven by a decrease in mortgage banking income of $94.0 million to $73.6 million for the year ended December 31, 2022, compared to $167.6 million for the prior year period. These results were impacted by increasing interest rates, compressing margins and a decrease in demand for residential mortgages experienced through the industry during the year ended December 31, 2022 compared with the year ended December 31, 2021.
Noninterest expense decreased to $348.3 million for the year ended December 31, 2022, compared with $373.6 million for the year ended December 31, 2021. The decrease in noninterest expense is reflective of the $45.4 million decrease in salaries, commissions and employee-related costs in the Mortgage segment related to the reduction in mortgage production, which was partially offset by mortgage restructuring expenses of $12.5 million incurred during the year ended December 31, 2022 associated with the exit of our direct-to-consumer internet delivery channel.
Business segment highlights
We operate our business in two business segments: Banking and Mortgage. See Note 1, “Basis of presentation” and Note 18 “Segment reporting” in the notes to our consolidated financial statements for a description of these business segments.
Banking
Income before taxes from the Banking segment decreased in the year ended December 31, 2023 to $154.0 million, compared to $182.9 million for the year ended December 31, 2022. Net interest income decreased $5.0 million to $407.2 million during the year ended December 31, 2023 from $412.2 million in the same period in the prior year. The provision for credit loss expense on loans held for investment and unfunded loan commitments was $2.5 million during the year ended December 31, 2023 compared to $19.0 million in the previous year. Refer to the section “Provision for credit losses” for additional information. Noninterest income decreased to $25.8 million in the year ended December 31, 2023 as compared to $41.3 million in the year ended December 31, 2022. The decrease includes a net loss on investment securities of $14.0 million primarily related to the sale of $100.5 million of AFS securities. Noninterest expense increased to $276.5 million during the year ended December 31, 2023 compared with $251.7 million for the year ended December 31, 2022, primarily due to increases in salaries, early retirement, severance and other costs, occupancy and regulatory fees.
Mortgage
Activity in our Mortgage segment resulted in a pre-tax net loss of $3.7 million for the year ended December 31, 2023 as compared to a pre-tax net loss of $23.3 million for the year ended December 31, 2022. There was a decrease in mortgage banking income of $28.9 million to $44.7 million during the year ended December 31, 2023 compared to $73.6 million for the year ended December 31, 2022. This was a result of interest rate increases, compressing margins and a decrease in demand for residential mortgages, which lead to a 48.3% decrease in interest rate lock volume for the year ended December 31, 2023 compared with the year ended December 31, 2022.
Noninterest expense for the years ended December 31, 2023 and 2022 was $48.4 million and $96.6 million, respectively. This decrease is reflective of the mortgage restructuring expense in addition to decreases in salaries, commissions and incentive costs, advertising, legal and professional fees and occupancy associated with the decrease in production volume and headcount reduction from the Mortgage restructuring.
Further discussion on the components of mortgage banking income and additional details related to the Mortgage restructuring are included under the subheadings “Noninterest income” and “Noninterest expense,” respectively, included within this management's discussion and analysis.
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Results of operations
Throughout the following discussion of our operating results, we present our net interest income, net interest margin and efficiency ratio on a fully tax-equivalent basis. The fully tax-equivalent basis adjusts for the tax-favored status of net interest income from certain loans and investments. We believe this measure to be the preferred industry measurement of net interest income, which enhances comparability of net interest income arising from taxable and tax-exempt sources.
The adjustment to convert certain income to a tax-equivalent basis consists of dividing tax-exempt income by one minus the combined federal and blended state statutory income tax rate of 26.06% for the years ended December 31, 2023, 2022, and 2021.
Net interest income
Net interest income is the most significant component of our earnings, generally comprising over 50% of our total revenues in a given period. Net interest income and margin are shaped by many factors, primarily the volume, term structure and mix of earning assets, funding mechanisms, and interest rate fluctuations. Other factors include accretion or amortization of discounts or premiums on purchased loans, prepayment risk on mortgage and investment–related assets, and the composition and maturity of earning assets and interest-bearing liabilities. Loans typically generate more interest income than investment securities with similar maturities. Funding from client deposits generally costs less than wholesale funding sources. Factors such as general economic activity, Federal Reserve monetary policy, and price volatility of competing alternative investments, can also exert significant influence on our ability to optimize the mix of assets and funding, net interest income and margin.
During the year ended December 31, 2023, the U.S. Treasury yield curve became less inverted as long-term note and bond rates increased at a faster pace than shorter-term note rates. The curve remained inverted as of December 31, 2023, which is in contrast to the more normalized upward sloping U.S. Treasury yield curve exhibited during the year ended December 31, 2022. The Federal Funds Target Rate range was 5.25% - 5.50% and 4.25% - 4.50% as of December 31, 2023 and December 31, 2022, respectively. In December 2023, the Federal Reserve released projections whereby the midpoint of the projected appropriate target range for the federal funds rate would remain at 5.38% at the end of 2023 and subsequently decrease to 4.63% by the end of 2024. While there can be no assurance that any increases or decreases in the federal funds rate will occur, these projections imply up to a 75 basis point decrease in the federal funds rate during 2024, followed by a 100 basis point decrease in 2025. The target range for the federal funds rate has remained at 5.25% to 5.50% since the Federal Open Market Committee’s July 26th meeting.
On a tax-equivalent basis, net interest income decreased $4.7 million to $410.6 million for the year ended December 31, 2023 as compared to $415.3 million for the year ended December 31, 2022. Interest income, on a tax-equivalent basis, was $681.8 million for the year ended December 31, 2023, compared to $484.5 million for the year ended December 31, 2022, an increase of $197.3 million, which was primarily driven by increases in interest rates on loans HFI and interest-bearing deposits with other financial institutions and volume on loans HFI, partially offset by an increase in our cost of deposits. Total interest income represents an increase in yield on interest-earning assets to 5.72% for the year ended December 31, 2023 compared with 4.16% for the year ended December 31, 2022.
Interest income on loans HFI, on a tax-equivalent basis, increased $170.2 million to $596.0 million for the year ended December 31, 2023 from $425.8 million for the year ended December 31, 2022 due primarily to increasing interest rates; however, the change was also heavily influenced by an increase in volume of average loans HFI. The average yield on loans HFI increased by 139 basis points period-over-period to 6.38% for the year ended December 31, 2023 from 4.99% for the year ended December 31, 2022. Our estimated contractual loan interest yield was 6.20% in the year ended December 31, 2023 compared with 4.69% in the year ended December 31, 2022. Additionally, average loans HFI increased to $9.34 billion for the year ended December 31, 2023 compared to $8.54 billion for the year ended December 31, 2022. The increase in average loans HFI is due to strong demand in our primary markets and additional funding during the year ended December 31, 2023 of commitments made in prior periods.
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The components of our loan yield for the years ended December 31, 2023, 2022, and 2021 were as follows:
Years Ended December 31,
Loans HFI yield components:
Syndicated loan fee income — — % 1,150 0.01 % — — %
(1)Includes tax equivalent adjustment using combined marginal tax rate of 26.06%.
Origination and other loan fees (including syndication fee income for the year ended December 31, 2022) impacted our NIM by 12 basis points and 21 basis points for the years ended December 31, 2023 and 2022, respectively.
Interest income on interest-bearing deposits with other financial institutions increased to $35.7 million for the year ended December 31, 2023 from $7.3 million for the year ended December 31, 2022 due to higher interest rates. The yield on interest-bearing deposits with other financial institutions increased 422 basis points to 5.08% for the year ended December 31, 2023 compared to 0.86% for the year ended December 31, 2022.
Interest expense was $271.2 million for the year ended December 31, 2023, an increase of $202.0 million as compared to $69.2 million for the year ended December 31, 2022. The increase was largely attributed to a rise in interest rates in interest-bearing deposit accounts, and specifically on money market, interest-bearing checking and customer time deposit products. Interest expense on money market deposits increased $103.3 million to $126.2 million for the year ended December 31, 2023 compared to $22.9 million for the year ended December 31, 2022. Interest expense on interest-bearing checking deposits increased $59.9 million to $81.8 million for the year ended December 31, 2023 from $21.9 million for the year ended December 31, 2022. Interest expense on customer time deposits increased $33.7 million to $45.3 million for the year ended December 31, 2023 from $11.6 million for the year ended December 31, 2022. The average rate on money market deposits increased 273 basis points from 0.80% for the year ended December 31, 2022 to 3.53% for the year ended December 31, 2023. The average rate on interest-bearing checking deposits increased 216 basis points from 0.70% for the year ended December 31, 2022 to 2.86% for the year ended December 31, 2023. The average rate on customer time deposits increased 216 basis points from 0.99% for the year ended December 31, 2022 to 3.15% for the year ended December 31, 2023. Total cost of interest-bearing deposits was 3.08% for the year ended December 31, 2023 compared to 0.74% for the year ended December 31, 2022.
Interest rates increased at a faster rate on our interest-bearing liabilities compared to our interest earning assets which resulted in our NIM, on a tax-equivalent basis, decreasing to 3.44% for the year ended December 31, 2023 from 3.57% for the year ended December 31, 2022. The effect of rising interest rates was partially offset by an increase in volume of loans HFI. Additionally, there was a shift in our balance sheet composition, including a decline in excess liquidity, which we define as interest-bearing deposits with other financial institutions in excess of 5% of average tangible assets. Excess liquidity is estimated to have negatively impacted our NIM by approximately 1 basis point for the year ended December 31, 2023 compared to approximately 7 basis points for the year ended December 31, 2022.
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Average balance and interest yield/rate analysis
The table below shows the average balances, income and expense and yield and rates of each of our interest-earning assets and interest-bearing liabilities on a tax equivalent basis, if applicable, for the periods indicated.
Years Ended December 31,
Interest-earning assets:
Investment securities:
Noninterest Earning Assets:
Interest-bearing liabilities:
Interest-bearing deposits:
Other interest-bearing liabilities:
Noninterest-bearing liabilities:
Noncontrolling interest 93 93 93
Interest rate spread (tax-equivalent basis)(2) 2.56 % 3.29 % 3.05 %
Net interest margin (tax-equivalent basis) (2)(5) 3.44 % 3.57 % 3.19 %
(1)Average balances of nonaccrual loans and overdrafts are included in average loan balances.
(2)Interest income includes the effects of taxable-equivalent adjustments using a U.S. federal income tax rate and, where applicable, state income tax to increase tax-exempt interest income to a tax-equivalent basis. The net tax-equivalent adjustment amounts included in income were $3.3 million, $3.0 million, and $3.1 million for years ended December 31, 2023, 2022, and 2021, respectively.
(3)Includes average net unrealized losses on investment securities available for sale of $231.5 million, $144.3 million, and $107.1 million for the years ended December 31, 2023, 2022, and 2021, respectively.
(4)Includes average of optional rights to repurchase government guaranteed GNMA mortgage loans previously sold that have become past due greater than 90 days of $21.7 million and $13.1 million for the years ended December 31, 2023 and 2022, respectively.
(5)The NIM is calculated by dividing annualized net interest income, on a tax-equivalent basis, by average total earning assets.
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Yield/rate and volume analysis
The tables below present the components of the changes in net interest income for the years ended December 31, 2023 and 2022. For each major category of interest-earning assets and interest-bearing liabilities, information is provided with respect to changes due to average volume and changes due to interest rates, with the changes in both volume and interest rates allocated to these two categories based on the proportionate absolute changes in each category.
Interest-earning assets:
Investment securities:
Federal funds sold and reverse repurchase agreements (4,337) 6,721 2,384
Interest-bearing liabilities:
Savings deposits (48) 39 (9)
(1)Average loans are presented gross, including nonaccrual loans and overdrafts.
(2)Interest income includes the effects of the tax-equivalent adjustments to increase tax-exempt interest income to a tax-equivalent basis. The net taxable-equivalent adjustment amounts included was $3.3 million and $3.0 million for the years ended December 31, 2023 and 2022, respectively.
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Year ended December 31, 2022 compared to year ended December 31, 2021
Interest-earning assets:
Investment securities:
Federal funds sold and reverse repurchase agreements 1,186 1,849 3,035
Interest-bearing deposits with other financial institutions (5,031) 10,404 5,373
Interest-bearing liabilities:
Savings deposits 42 (7) 35
Brokered and internet time deposits (380) (118) (498)
Federal Home Loan Bank advances 5,583 — 5,583
Other borrowings (22) 25 3
(1)Average loans are presented gross, including nonaccrual loans and overdrafts.
(2)Interest income includes the effects of the tax-equivalent adjustments to increase tax-exempt interest income to a tax-equivalent basis. The net taxable-equivalent adjustment amounts included was $3.0 million and $3.1 million for both the years ended December 31, 2022 and 2021, respectively.
Provision for credit losses
The provision for credit losses charged to operating expense is an amount which, in the judgment of management, is necessary to maintain the allowance for credit losses at an appropriate level under the current expected credit loss model. The determination of the amount of the allowance is complex and involves a high degree of judgment and subjectivity. Refer to Note 1, “Basis of presentation” in the notes to our consolidated financial statements for a detailed discussion regarding ACL methodology.
Our allowance for credit losses calculation as of December 31, 2023 resulted from management’s best estimate of losses over the life of loans and unfunded commitments in our portfolio in accordance with the CECL approach. Our calculation included qualitative adjustments for projected slower GDP growth over the next two to three years and expected elevated unemployment levels. We also considered the current global economic environment, including continued pressures on supply chains (and more specifically, oil and energy) and increased uncertainty due to geopolitical turmoil and its impact on the U.S. economy. These factors may continue to lead to increased volatility in forecasted macroeconomic variables, a key input to our calculated level of allowance for credit losses.
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We recognized a provision for credit losses on loans HFI for the year ended December 31, 2023 of $16.7 million. This compares to a provision for credit losses on loans HFI of $10.4 million recorded for the year ended December 31, 2022. The current period provision on loans HFI resulted from management’s best estimate of losses over the life of loans in our portfolio in accordance with the CECL approach and was impacted by three commercial and industrial relationships moving to nonaccrual status and the deteriorating economic forecasts as discussed in further detail above. For the year ended December 31, 2022, the increase in the provision for credit losses on loans HFI was driven by an increase in loans HFI outstanding period-over-period and the increased possibility of a future recession and inflationary pressures.
We also estimate expected credit losses on off-balance sheet loan commitments that are not accounted for as derivatives. When applying the CECL methodology to estimate expected credit loss, we consider the likelihood that funding will occur, the contractual period of exposure to credit loss, the risk of loss, historical loss experience, and current conditions along with expectations of future economic conditions. For the year ended December 31, 2023, we recorded a reversal of provision for credit losses on unfunded commitments of $14.2 million compared to provision expense of $8.6 million during the year ended December 31, 2022. The decrease in the provision for credit losses on unfunded commitments is primarily due to management's concentrated effort to reduce unfunded loan commitments from December 31, 2022 in specific categories judged to be inherently higher risk considering the current and projected economic conditions, including a $913.2 million decrease in our construction category as these projects moved to permanent financing. As such, the decrease resulted in a $14.2 million decrease in required ACL related to the unfunded commitments in our construction portfolio.
During the years ended December 31, 2023 and 2022, it was determined that all AFS debt securities that experienced a decline in fair value below amortized cost basis were due to noncredit-related factors. Therefore, there was no provision for credit losses recognized on AFS debt securities during the years ended December 31, 2023 or 2022.
Noninterest income
The following table sets forth the components of noninterest income for the periods indicated:
Years Ended December 31,
(Loss) gain from investment securities, net (13,973) (376) 324
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Noninterest income amounted to $70.5 million for the year ended December 31, 2023, a decrease of $44.1 million, or 38.5%, as compared to $114.7 million for the year ended December 31, 2022. Changes in selected components of noninterest income in the above table are discussed below.
Mortgage banking income primarily includes origination fees and realized gains and losses on the sale of mortgage loans, unrealized change in fair value of mortgage loans and derivatives, and mortgage loan servicing fees, which includes the net change in fair value of MSRs and related derivatives. Mortgage banking income is initially driven by the recognition of interest rate lock commitments at fair value at inception of the IRLCs. This is subsequently adjusted for changes in the overall interest rate environment offset by derivative contracts entered into to mitigate the interest rate exposure. Upon sale of the loan, the net fair value gain is reclassified as a realized gain on sale.
Mortgage banking income was $44.7 million and $73.6 million for the years ended December 31, 2023 and 2022, respectively, representing a $28.9 million decrease, or 39.3% year-over-year. The total decrease includes a reduction in income from gains on sale and related fair value changes, which decreased to $30.7 million during the year ended December 31, 2023 compared to $52.9 million for the year ended December 31, 2022. This change was caused by a decrease in interest rate lock volume of $1.30 billion, or 48.3%, for the year ended December 31, 2023 compared to the year ended December 31, 2022. In addition to being impacted by the interest rate environment, affordability constraints and a decline in consumer demand, this decrease also reflects the impact of the Mortgage restructuring and discontinuance of our direct-to-consumer internet delivery channel during the second quarter of 2022. For the year ended December 31, 2022, direct-to-consumer comprised 24.6% our total interest rate lock volume and 34.5% of our sales volume, respectively.
The components of mortgage banking income for the years ended December 31, 2023, 2022, and 2021 were as follows:
Year Ended December 31,
Mortgage banking income
Interest rate lock commitment volume by delivery channel:
Interest rate lock commitment volume by purpose (%):
ATM and interchange fees decreased $5.3 million to $10.3 million during the year ended December 31, 2023 as compared to $15.6 million for the year ended December 31, 2022. The decrease was primarily attributable to the expiration of our temporary exemption from the Durbin amendment during the second half of 2022. The Durbin amendment limits the amount of interchange transaction fees that banks with asset sizes greater than $10 billion are permitted to charge retailers for debit card processing. Interchange fee income varies with size and volume of transactions, which can fluctuate with seasonality, consumer spending habits and economic conditions. While our volume of interchange transactions increased approximately 7.00% during the year ended December 31, 2023 from the previous year, interchange fee income declined by 35.7%, the majority of which related to the application of the fee cap imposed by the Durbin amendment impacting the current period.
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Net loss from investment securities was $14.0 million and $0.4 million for the years ended December 31, 2023 and 2022, respectively. The net loss from investment securities during the year ended December 31, 2023 is primarily the result of management's election to sell $100.5 million of available-for-sale debt securities to reinvest the proceeds of the sale into higher yielding AFS securities. Refer to the section “Other earning assets” for additional information on the sale of the AFS securities.
Other income increased $0.9 million to $6.1 million during the year ended December 31, 2023 as compared to $5.2 million during the year ended December 31, 2022. This increase is primarily related to a $2.1 million loss associated with the change in fair value of the commercial loans held for sale portfolio during the year ended December 31, 2023 compared to a $5.1 million loss for the year ended December 31, 2022. Additional information on our commercial loans held for sale portfolio is included under the subheading 'Loans held for sale' within this management's discussion and analysis.
Noninterest expense
The following table sets forth the components of noninterest expense for the periods indicated:
Year Ended December 31,
Amortization of core deposit and other intangibles 3,659 4,585 5,473
Mortgage restructuring expense — 12,458 —
Noninterest expense decreased by $23.4 million during the year ended December 31, 2023 to $324.9 million as compared to $348.3 million in the year ended December 31, 2022. Changes in selected components of noninterest expense in the above table are discussed below.
Salaries, commissions and employee benefits expense was the largest component of noninterest expense representing 62.6% and 60.7% of total noninterest expense for the years ended December 31, 2023 and 2022, respectively. For the year ended December 31, 2023, salaries and employee benefits expense decreased $8.1 million, or 3.81%, to $203.4 million as compared to $211.5 million for the year ended December 31, 2022. The decrease was attributable to a $10.9 million decrease in salaries in the Mortgage segment due to the Mortgage restructuring. Additionally, the decrease was attributable to a $11.5 million decrease in incentive and commission-based compensation during the year ended December 31, 2023, which was driven by the decrease in mortgage production volume and decline in profitability during the period. The decrease was partially offset by a $8.4 million increase in early retirement, severance and other costs primarily associated with our efficiency and scalability initiatives.
Occupancy and equipment expense increased $4.6 million during the year ended December 31, 2023 to $28.1 million compared to $23.6 million during the year ended December 31, 2022. This increase includes a $1.8 million loss on lease terminations primarily associated with branch closures.
Legal and professional expense decreased by $6.1 million during the year ended December 31, 2023 to $8.9 million as compared to $15.0 million during the year ended December 31, 2022. The decrease in legal and professional expenses was due to decreases in consulting, legal, and other fees as these were temporarily increased during the year ended December 31, 2022 due to the acceleration of some of our internal projects.
Advertising expense includes expenses related to sponsorships, advertising, marketing, customer relations and business development, and public relations. During the year ended December 31, 2023, advertising expense decreased $2.9 million to $8.3 million compared to $11.2 million during the year ended December 31, 2022. This decrease is primarily attributable to realigning and decreasing our expenses after the Mortgage restructuring to reflect the decrease in production.
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Mortgage restructuring expense of $12.5 million was reported during the year ended December 31, 2022 related to the exit from our direct-to-consumer internet delivery channel. These expenses primarily include $10.0 million related to salaries, commissions and employee benefits expense, including the acceleration of vesting on restricted stock units. Other components of this expense include $1.1 million related to software license and maintenance fees, $0.4 million impairment of our operating lease right-of-use assets, and $0.9 million loss on disposal of fixed assets.
Other noninterest expense primarily includes mortgage servicing expenses, regulatory fees and deposit insurance assessments, software license and maintenance fees and various other miscellaneous expenses. Other noninterest expense increased $2.6 million during the year ended December 31, 2023 to $63.3 million compared to $60.7 million during the year ended December 31, 2022. This increase is primarily due to a $4.7 million increase in regulatory fees and assessments which was driven by a 2 basis point increase in the base deposit insurance assessment rate for insured depository institutions from the FDIC that began with the first quarterly assessment period of 2023, resulting in an additional $2.2 million in FDIC assessment expense during the year ended December 31, 2023. Additionally, the increase in regulatory fees and assessments includes a $1.8 million FDIC special assessment during the year ended December 31, 2023 to recover the loss to the Deposit Insurance Fund associated with protecting uninsured depositors following the bank failures earlier in 2023.
Efficiency ratio
The efficiency ratio is one measure of productivity in the banking industry. This ratio is calculated to measure the cost of generating one dollar of revenue. That is, the ratio is designed to reflect the percentage of one dollar which must be expended to generate that dollar of revenue. We calculate this ratio by dividing noninterest expense by the sum of net interest income and noninterest income. For an adjusted efficiency ratio, we exclude certain gains, losses and expenses we do not consider core to our business.
Our efficiency ratio was 68.0% and 66.1% for the years ended December 31, 2023 and 2022, respectively. Our adjusted efficiency ratio, on a tax-equivalent basis, was 62.9% and 62.7% for the years ended December 31, 2023 and 2022, respectively. See “GAAP reconciliation and management explanation of non-GAAP financial measures” in this Report for a discussion of the adjusted efficiency ratio.
Income taxes
Income tax expense was $30.1 million and $35.0 million for the years ended December 31, 2023 and 2022, respectively. This represents effective tax rates of 20.0% and 21.9% for the years ended December 31, 2023 and 2022, respectively. The primary differences from the enacted rates are applicable state income taxes and certain expenses that are not deductible reduced for non-taxable income and additional deductions for equity-based compensation upon vesting of restricted stock units. State taxes, net of federal benefits, decreased our effective tax rate by 0.10% and increased our effective tax rate 2.41% for the years ended December 31, 2023 and 2022, respectively. Municipal interest income, net of interest disallowance decreased our effective tax rate by 1.20% and 1.11% for the years ended December 31, 2023 and 2022, respectively.
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Financial condition
The following discussion of our financial condition compares balances as of December 31, 2023 and 2022.
Loan portfolio
The following table sets forth the balance and associated percentage of each class of financing receivable in our loan portfolio as of the dates indicated:
December 31,
Loan Type:
Residential real estate:
Commercial real estate:
Our loans HFI portfolio is our most significant earning asset, comprising 74.6% and 72.4% of our total assets at December 31, 2023 and 2022, respectively. Our strategy is to grow our loan portfolio by originating quality commercial and consumer loans that comply with our credit policies and that produce revenues consistent with our financial objectives. Our overall lending approach is primarily focused on providing credit to our customers directly in the markets we serve, but we are also party to loan syndications and participations from other banks (collectively, “participated loans”). As of December 31, 2023 and 2022, loans held for investment included approximately $254.6 million and $280.5 million, respectively, related to participated loans. We also sell loan participations to unaffiliated third-parties as part of our credit risk management and balance sheet management strategy. During the years ended December 31, 2023 and 2022, we sold $55.8 million and $160.8 million in loan participations, respectively. All loans, whether or not we act as a participant, are underwritten to the same standards as all other loans we originate. We believe our loan portfolio is well-balanced, which provides us with the opportunity to grow while monitoring our loan concentrations.
Loan concentrations are considered to exist when there are amounts loaned to a number of borrowers engaged in similar activities that would cause them to be similarly impacted by economic or other conditions. Our lending activity is heavily concentrated in the geographic market areas we serve, with the highest concentration in Tennessee. This geographic concentration subjects our loan portfolio to the general economic conditions within the state. The risks created by this concentration have been considered by management in the determination of the appropriateness of the allowance for credit losses on loans HFI. As of December 31, 2023 and 2022, there were no concentrations of loans exceeding 10% of total loans other than our exposure to Tennessee, Alabama and the categories of loans disclosed in the table above. We believe our loan portfolio is diversified relative to industry concentrations across the various loan portfolio categories.
Banking regulators have established guidelines of less than 100% of tier 1 capital plus allowance for credit losses in construction lending and less than 300% of tier 1 capital plus allowance for credit losses in commercial real estate lending that management monitors as part of the risk management process. The construction concentration ratio is a percentage of the outstanding construction and land development loans to total tier 1 capital plus allowance for credit losses. The commercial real estate concentration ratio is a percentage of the outstanding balance of non-owner occupied commercial real estate, multifamily, and construction and land development loans to tier 1 capital plus allowance for credit losses. Management strives to operate within the thresholds set forth above.
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When our ratios are in excess of one or both of these guidelines, banking regulators generally require an increased level of monitoring in these lending areas by management. The table below shows concentration ratios for the Bank and Company as of December 31, 2023 and 2022.
As a percentage (%) of tier 1 capital plus allowance for credit losses
FirstBank FB Financial Corporation
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As part of our lending policy and risk management activities, the Company tracks lending exposure of commercial and industrial and owner-occupied commercial real estate by industry classification (as defined by the North American Industry Classification System) and type to determine potential risks associated with industry concentrations, and if any risk issues could lead to additional credit loss exposure. The table below provides a summary of our commercial and industrial and owner-occupied commercial real estate portfolios by industry classification.
(dollars in thousands) Committed Amount Outstanding Nonperforming
Commercial and industrial
Other services (except public administration) 91,073 52,295 —
Commercial real estate owner-occupied
Management of companies and enterprises 16,057 14,187 —
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Additionally, the Company tracks lending exposure of non-owner occupied commercial real estate and construction by collateral property type to determine potential risks associated with collateral types, and if any risk issues could lead to additional credit loss exposure. The following table provides a summary of our non-owner occupied commercial real estate and construction loan portfolios by collateral property type:
(dollars in thousands) Committed Amount Outstanding Nonperforming
Commercial real estate non-owner occupied
Assisted living and special care facilities 82,045 81,626 —
Construction
Consumer:
Commercial:
Residential Development:
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Loan maturity and sensitivities
The following table presents the contractual maturities of our loan portfolio as of December 31, 2023. Loans with scheduled maturities are reported in the maturity category in which the payment is due. Demand loans with no stated maturity and overdrafts are reported in the “due in 1 year or less” category. Loans that have adjustable rates are shown as amortizing to final maturity rather than when the interest rates are next subject to change. The tables do not include prepayment assumptions or scheduled repayments.
Residential real estate:
Commercial real estate:
For loans due after one year or more, the following table presents the interest rate composition for loans outstanding as of December 31, 2023.
Loan type (dollars in thousands) Fixedinterest rate Floatinginterest rate Total
Residential real estate:
Commercial real estate:
The following table presents the contractual maturities of our loan portfolio segregated into fixed and floating interest rate loans as of December 31, 2023. As of December 31, 2022, we had $17.4 million in fixed-rate loans in which we have entered into variable rate swap contracts. There were no such loans outstanding as of December 31, 2023.
(dollars in thousands) Fixedinterest rate Floatinginterest rate Total
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Of the loans shown above with floating interest rates as of December 31, 2023, many have interest rate floors as follows:
Loans with current rates above floors:
Loans at interest rate floors providing support:
Asset quality
In order to operate with a sound risk profile, we focus on originating loans that we believe to be of high quality. We have established loan approval policies and procedures to assist us in maintaining the overall quality of our loan portfolio. When delinquencies in our loans exist, we rigorously monitor the levels of such delinquencies for any negative or adverse trends. From time to time, we may modify loans to extend the term or make other concessions, including extensions or interest rate modifications, to help a borrower with a deteriorating financial condition stay current on their loan and to avoid foreclosure. Furthermore, we are committed to collecting on all of our loans. This practice leads to higher recoveries in the long-term.
Nonperforming assets
Our nonperforming assets consist of nonperforming loans, other real estate owned and other repossessed non-earning assets. As of December 31, 2023 and 2022, we had $86.5 million and $87.5 million, respectively, in nonperforming assets. Nonperforming loans are those on which the accrual of interest has stopped, as well as loans that are contractually 90 days past due on which interest continues to accrue. Generally, the accrual of interest is discontinued when the full collection of principal or interest is in doubt or when the payment of principal or interest has been contractually 90 days past due, unless the obligation is both well secured and in the process of collection. In our loan review process, we seek to identify and proactively address nonperforming loans. Accrued interest receivable written off as an adjustment to interest income amounted to $1.1 million for both the years ended December 31, 2023 and 2022. Additionally, we had net interest recoveries on nonperforming assets previously charged off of $1.4 million and $2.7 million for the years ended December 31, 2023 and 2022, respectively.
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Nonperforming loans HFI increased $15.1 million to $60.9 million as of December 31, 2023 compared to $45.8 million as of December 31, 2022. The increase is primarily attributable to three commercial and industrial relationships moving to nonaccrual status.
In addition to loans HFI, we also included loans HFS that have stopped accruing interest or become 90 days or more past due. Our nonperforming commercial loans HFS represented a pool of acquired commercial loans. These loans amounted to $9.3 million as of December 31, 2022. There were no such loans outstanding as of December 31, 2023.
As of December 31, 2023 and 2022, we had $21.2 million and $26.2 million, respectively, of delinquent GNMA optional repurchase loans previously sold included on our consolidated balance sheets in loans held for sale. These are considered nonperforming assets as we do not earn any interest on the unexercised option to repurchase these loans.
As of December 31, 2023 and 2022, other real estate owned included $0.1 million and $2.1 million, respectively, of excess land and facilities held for sale resulting from our prior acquisitions. Other repossessed assets also included other repossessed non-real estate amounting to $1.1 million and $0.4 million as of December 31, 2023 and 2022, respectively.
The following table provides details of our nonperforming assets, the ratio of such loans and other nonperforming assets to total assets, and certain other related information as of the dates presented:
December 31,
Loan Type:
Residential real estate:
Multi-family mortgage 32 42
Commercial real estate:
Commercial loans held for sale — 9,289
Nonperforming assets as a percentage of total assets 0.69 % 0.68 %
Nonaccrual loans HFI as a percentage of loans HFI 0.51 % 0.30 %
We have evaluated our loans HFI classified as nonperforming and believe all nonperforming loans have been adequately reserved for in the allowance for credit losses on loans HFI as of December 31, 2023 and 2022. Management also continually monitors past due loans for potential credit quality deterioration. Loans not considered nonperforming include loans 30-89 days past due that continue to accrue interest amounting to $47.0 million at December 31, 2023 as compared to $31.3 million at December 31, 2022. The increase from December 31, 2022 to December 31, 2023 was primarily noted in our 1-to-4 family mortgage and our construction portfolios.
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Allowance for credit losses
The allowance for credit losses represents the portion of the loan's amortized cost basis that we do not expect to collect due to credit losses over the loan's life, considering past events, current conditions, and reasonable and supportable forecasts of future economic conditions. Loan losses are charged against the allowance when we believe the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. The allowance for credit losses is based on the loan's amortized cost basis, excluding accrued interest receivable, as we promptly charge off uncollectible accrued interest receivable.
We calculate our expected credit loss using a lifetime loss rate methodology. We utilize probability-weighted forecasts, which consider multiple macroeconomic variables from Moody's that are applicable to each type of loan. See “Critical Accounting Estimates - Allowance for credit losses” and Note 3 “Loans and allowance for credit losses” in the notes to the consolidated financial statements for additional information regarding our methodology.
The following table presents the allocation of the allowance for credit losses on loans HFI by loan category as well as the ratio of loans by loan category compared to the total loan portfolio as of the dates indicated:
December 31,
Loan Type:
Residential real estate:
Commercial real estate:
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The following table summarizes activity in our allowance for credit losses on loans HFI during the periods indicated:
Years Ended December 31,
Charge-offs:
Construction — — (30)
Residential real estate:
Residential line of credit — — (18)
Multi-family mortgage — — (1)
Commercial real estate:
Owner-occupied (144) (15) —
Recoveries:
Residential real estate:
Residential line of credit 1 17 115
Commercial real estate:
Non-owner occupied 1,833 — —
Provision for (reversal of) credit losses on loans HFI 16,738 10,393 (38,995)
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The following tables details our provision for credit losses on loans HFI and net (charge-offs) recoveries to average loans HFI outstanding by loan category during the periods indicated:
(dollars in thousands)
Residential real estate:
Commercial real estate:
Residential real estate:
Commercial real estate:
Residential real estate:
Commercial real estate:
The ACL on loans HFI was $150.3 million and $134.2 million and represented 1.60% and 1.44% of loans HFI as of December 31, 2023 and 2022, respectively. For further information related to the change in the ACL refer to “Provision for credit losses” section herein and Note 3, “Loans and allowance for credit losses on loans HFI” in the notes to our consolidated financial statements. For the year ended December 31, 2023, we experienced net charge-offs of $0.6 million, or 0.01% of average loans HFI, compared to net charge-offs of $1.8 million, or 0.02% for the year ended December 31, 2022. Our ratio of total nonperforming loans HFI as a percentage of total loans HFI increased by 16 basis points to 0.65% as of December 31, 2023 compared to December 31, 2022 primarily due to three commercial and industrial relationships moving to nonaccrual status.
As a ratio of ACL to loans HFI by loan type, our commercial and industrial, HELOC and consumer and other portfolios incurred the largest increases period-over-period. These portfolios are heavily reliant on the strength of the economy; and therefore, they are adversely affected by inflation and high interest rates.
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We also maintain an allowance for credit losses on unfunded commitments, which decreased to $8.8 million as of December 31, 2023 from $23.0 million as of December 31, 2022 due to a 18.5% or $657.2 million decrease in unfunded loan commitments during the period. Notably, there was a $913.2 million decrease in unfunded loan commitments in our construction loan category pipeline which resulted in a $14.2 million decrease in required ACL related to unfunded commitments. Our unfunded commitments in our construction loan category decreased as a result of management's concentrated effort over the last year to reduce commitments in specific categories judged to be inherently higher risk considering the current and projected economic conditions. Partially offsetting the decrease in unfunded loan commitments in our construction portfolio was a $236.2 million increase in unfunded loan commitments for commercial and industrial loans compared to December 31, 2022.
Loans held for sale
Commercial loans held for sale
Historically, our loans held for sale included a previously acquired portfolio of commercial loans. During the year ended December 31, 2023, we exited the final relationship. As of December 31, 2022, the loans had a fair value of $30.5 million.
The change in fair value of the portfolio which is included in 'Other noninterest income' on the consolidated statement of income amounted to a loss of $2.1 million for the year ended December 31, 2023 compared to a loss of $5.1 million for the year ended December 31, 2022. The portfolio experienced a net gain of $7.2 million over the life of the portfolio.
Mortgage loans held for sale
Mortgage loans held for sale consisted of $46.6 million of residential real estate mortgage loans in the process of being sold to third-party private investors or government sponsored agencies and $21.2 million of GNMA optional repurchase loans. This compares to $82.8 million of residential real estate mortgage loans in the process of being sold to third-party private investors or government sponsored agencies and $26.2 million of GNMA optional repurchase loans as of December 31, 2022.
Generally, mortgage volume decreases in rising interest rate environments and slower housing markets and increases in lower interest rate environments and robust housing markets. Interest rate lock volume for the years ended December 31, 2023 and 2022 totaled $1.40 billion and $2.70 billion, respectively. The decrease in interest rate lock volume during the year ended December 31, 2023 reflects the slow down experienced across the industry due primarily to higher interest rates. The decrease also reflects the exit from our direct-to-consumer internet delivery channel completed during 2022. Interest rate lock volume within our direct-to-consumer internet delivery channel for the year ended December 31, 2022 totaled $663.8 million. Interest rate lock commitments in the pipeline were $69.2 million as of December 31, 2023 compared with $118.3 million as of December 31, 2022.
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Deposits
Deposits represent the Bank’s primary source of funding. We continue to focus on growing core customer deposits through our relationship driven banking philosophy, community-focused marketing programs and our treasury management services.
Total deposits were $10.55 billion and $10.86 billion as of December 31, 2023 and 2022, respectively. Noninterest-bearing deposits at December 31, 2023 and December 31, 2022 were $2.22 billion and $2.68 billion, respectively, while interest-bearing deposits were $8.33 billion and $8.18 billion at December 31, 2023 and 2022, respectively.
The decrease in noninterest-bearing deposits of $458.2 million from December 31, 2022 to December 31, 2023 is attributable to migration to interest-yielding products such as money market and savings deposits, which increased by $507.6 million from December 31, 2022. Also included in noninterest-bearing deposits are certain mortgage escrow deposits from our third-party mortgage servicing provider, which amounted to $63.6 million and $75.6 million as of December 31, 2023 and 2022, respectively.
Interest-bearing checking deposits decreased by $555.6 million from December 31, 2022 due largely to decreases in our deposits from municipal and governmental entities, also known as public funds, which decreased by $475.9 million during the period. The decrease in public funds was due to management's decision to not renew certain maturing public deposits due to rising costs of these deposits.
Additionally, brokered and internet time deposits increased by $149.0 million to $150.8 million as of December 31, 2023 compared to December 31, 2022, which was a result of our balance sheet and liquidity management strategy, which included issuing brokered time deposits in order to increase the liquidity of our balance sheet.
As a result of the rising interest rate environment and the shift in our deposit composition, we have experienced an increase in our cost of interest-bearing deposits and total deposits. Average deposit balances by type, together with the average rates per period are reflected in the average balance sheet amounts, interest paid, and rate analysis tables included in this management's discussion and analysis under the subheading “Results of operations” discussion.
We utilize designated fair value hedges to mitigate interest rate exposure associated with certain fixed-rate money market deposits. The aggregate fair value of these hedges included in the carrying amount of total money market deposits as of December 31, 2023 and 2022 was $4.5 million and $9.8 million, respectively.