PNFP Pinnacle Financial Partners

Terry Turner Chief Executive Officer
Harold Carpenter Chief Financial Officer
Tim Huestis Chief Credit Officer
Stephen Scouten Piper Sandler
Jennifer Demba Truist Securities
Steven Alexopoulos JP Morgan
Brett Rabatin Hovde Group
Jared Shaw Wells Fargo Securities
Brock Vandervliet UBS
Michael Rose Raymond James
Catherine Mealor KBW
Brian Martin Janney Montgomery Scott
Call transcript

Good morning, everyone. And welcome to the Pinnacle Financial Partners Fourth Quarter 2020 Earnings Conference Call. Hosting the call today from Pinnacle Financial Partners is Mr. Terry Turner, Chief Executive Officer and Mr. Harold Carpenter, Chief Financial Officer. Please note Pinnacle's earnings release and this morning's presentations are available on the investor relations page of their Web site at Today's call is being recorded and will be available for replay on Pinnacle's Web site for the next 90 days. At this time, all participants have been placed in a listen-only mode. The floor will be open for your questions following the presentation [Operator Instruction].

During this presentation, we may make comments which may constitute forward-looking statements. All forward-looking statements are subject to risks, uncertainties and other facts that may cause the actual results, performance or achievements of Pinnacle Financial to differ materially from any results expressed or implied by such forward-looking statements. Many of such factors are beyond Pinnacle Financial’s ability to control or predict, and listeners are cautioned not to put under reliance on such forward-looking statements. A more detailed description of these and other risks is contained in Pinnacle Financial’s Annual Report on Form 10-K for the year ended December 31, 2019, and its subsequently filed quarterly reports. Pinnacle Financial disclaims any obligation to update or revise any forward-looking statements contained in this presentation, whether as a result of new information, future events or otherwise.

In addition, these remarks may include certain non-GAAP financial measures as defined by SEC Regulation G. A presentation of the most directly comparable GAAP financial measures and a reconciliation of the non-GAAP measures to the comparable GAAP measures will be available on Pinnacle Financial’s Web site at With that, I'm now going to turn the presentation over to Mr. Terry Turner, Pinnacle's President and CEO.

Terry Turner

Thank you, operator. Thank you for joining us this morning. I know everyone's familiar with the fact that we're coming to you from Nashville, Tennessee, home of Vanderbilt University. There's an accounting professor at Vanderbilt that in years past has used Pinnacle as a case for his accounting class and the students have to decide for our financials, our footnotes, follow all our SEC filings, listened our earnings calls and so forth.

And so in the class, immediately following the assignment to listen to our earnings call, he told me that he opened, it was just an open-end question to sort of get their overarching reaction to the call. And he said that they had two overarching reactions. He said, one, those guys sure sound optimistic; and two, they sure sound Southern.

And so, my guess is that following our call today, you may have the same reaction. Fourth quarter was an outstanding quarter for us. We had key success measures like asset quality, core deposit growth, fee income growth, pre-provision net revenue growth and tangible book value accretion, all very strong during the quarter. We began every quarterly call with this dashboard, reflecting our key performance metrics on a GAAP basis. But honestly, there's so many adjustments required in order to focus on the variables that we're truly managing here at Pinnacle that I want to move quickly to the chart reflecting the adjusted non-GAAP measures.

As you can see here on the top row, total revenues, fully-diluted EPS and adjusted PPNR are all up meaningfully on a quarterly basis. 2020 revenues were up roughly 9% year-over-year at a time when many have been predicting banks can not earn in 2021 what they earned in 2019.

We are very proud that our second half 2020 fully diluted EPS exceeded 2019's by 28%. Adjusted PPNR for 2020 is up nearly 9.4% over 2019, while PPNR per share is up 11.4%. Along the second row, you can see the loans are up 13.3% year in 2020 compared to last year. Harold will review in greater detail shortly, and talk about expectations going forward. But generally, we continue to believe will produce loan growth primarily based on our ability to take market share, due to our prolific hiring. We've hired 175 revenue producers over the last two years, and that's more than 20% of our total revenue producers, that represents enormous market share movement potential, which I expect differentiates our growth opportunity from many, if not most of our peers. Core deposits continue to accelerate at a rapid pace during the quarter and for the entire year. And in spite of the COVID challenges, we continue to have a track record for consistently growing tangible book value per share with nearly 15% growth in tangible book value per share in 2020. Across the bottom row, you can see that asset quality held up really well in the fourth quarter with NPAs at just 38 basis points, classified assets actually down this quarter to the lowest level in the last five years, and annualized net charge offs of just 19 basis points in the quarter. I'm going to turn it over to Harold and Tim to review the results in much greater detail.

As we go through the details, I find that there's a lot to be encouraged by regarding our net interest margin fundamentals, particularly the trajectory of our cost of deposits. Fee income was solid this quarter. Mortgage had a great year. BHG's report card during this pandemic continues to outperform expectations.

Our revenue per share for 2020 was $15.05, that's up nearly 11.4% from this time last year and significantly better than the median peer comparisons. We talked about our transition to defense earlier in 2020, allocating a meaningful part of our human capital to reviewing our loan book borrower by borrower. Tim is going to update you on the work that he and his team accomplished in Q4, as well as giving inside to what we're seeing and learning from our clients. At least for me, our asset quality performance inspired optimism. Though, as we all know, there are still unknowns relative to vaccine rollout and the full reopening of economy.

So Harold, let me turn it over to you.

Harold Carpenter

Thanks, Terry. Good morning, everybody. Many of our slides we've shown for quite some time on fourth quarter results are basically consistent with what we've anticipated from last time.

So I don't believe there's a ton of new information.

So I'll hit the highlights. We did experienced a wealth of loan growth for the fourth quarter.

Excluding PPP, we're up almost 8% annualized between third quarter and fourth quarter. We don't have a trend just yet but it was a positive signal.

We will lean on our new hires over the last few years to give us an advantage on loan growth.

As you know, we're in great markets. We don't apologize for any markets where we do business so we think that too will help us outperform when entrepreneurs begin to see the fog lift and we see loan growth reemerge in a more predictable way. That said, our market leaders believe that loan growth forecast excluding PPP of high single digit growth in 2021 is a reasonable number for our firm.

As the loan yields ex-PPP loan yields were pretty flat. Keeping loan yields will be a fight in 2021.

We will lean into our relationships even harder to maintain our yields. Granted the steepening curve should be helpful to us but there's a lot of liquidity out there.

So finding borrowers is more difficult plus you've got a lot of banks out there using pricing as leverage, because I don't know a bank that doesn't have a considerable amount of all balance sheet liquidity. The PPP program is back in the news and we're excited about deploying the next round of funding and hopefully we can place a meaningful amount during the first half of 2021.

Although, we don't expect to have similar level of PPP volumes in the second round as the first, we do believe we're ready to be just as successful in the second round as the first, and also believe this will be incredibly beneficial to those small businesses in our market that continue to be impacted by the pandemic.

Over the last few weeks for those clients that are interested in the second round, we've pre-loaded data files to expedite the process.

So we’ve surveyed these clients and are contacting them currently to explain the new program and gauge their interest.

As of close of business yesterday, we received approximately 4,000 applications totaling almost $600 million, so we're off to a pretty rapid start.

As to the first round forgiveness process, it remains rigorous but our team is working through with our clients.

We expected net interest income lift in the fourth quarter due to PPP forgiveness and expect more lift in the first half of 2021.

Now on to deposits. We had another big deposit quarter. We've experienced significant growth in non-interest bearing deposits ending at $7.4 billion at quarter, up 54% since last year. The number of commercial check accounts is up almost 12% since year end.

Our average loan to average deposits was at its lowest level than I can ever remember, 83%.

We expect to reverse that trend at some point in 2021. We were at 33 basis points on average deposits at year end and at 29 basis points for ELP rates. We were intentional about getting those numbers down to less than 25 basis points very quickly. We're getting a few questions about deploying excess liquidity. We're beginning to get interested in various ways to leverage some of this cash flow given the steepening of the yield curve, but we'll be very cautious in whatever new opportunities we see to deploy excess cash.

So we will have an opportunity to reduce our wholesale funding book over the next several quarters, which we fully anticipate to. This reduction should help reduce funding costs across the board and help our NIM. Similar to what some other banks announced during the quarter, although, our opportunity wasn’t nearly as large as others, we did redeem $200 million of Federal Home Loan Bank borrowings prior to maturity and incurred $10.3 million prepayment build.

We also unwound a cash flow hit that start in January of 2021 that we've been carrying for a few years. Combined loss of around 15 million between the two but should be paid back within two years.

We have other opportunities with Federal Home Loan borrowings that we will evaluate respectively, but the payback period is too long currently for us to get excited about those right now.

As to the cash flow hedge due to liquidity swell, we no longer have to need to carry the wholesale funding that was hit by the swap. Therefore we recognize the previous unrealized loss once we cancel the funding. By paying off the Federal Home Loan Bank advance early and unwinding the cash flow hedge, we should stay close to $7 million in interest expense in 2021.

Our liquidity bill costs us approximately $2 million a quarter.

We will shed this excess liquidity at some point, likely more slower than we'd like. We believe that both PPP and our excess liquidity negatively impact our fourth quarter NIM by 30 basis points, which is down from 40 basis points in the third quarter. We believe our NIM after PPP and liquidity is approximately 3.27%. This compares to a similar calculation last quarter of 3.22%, so we're up 5 basis points from the previous quarter. Thus, our adjusted NIM is up two quarters in a row. We called out a trend. Seriously, this will be a big focus of our bank going into 2021.

Now to fee income. I'll be brief. Fees were more than $83 million for the quarter.

For the year, fee revenues grew 40% in 2020, which we believe was remarkable. Everyone knows that 2020 was a power year for mortgage. We don't expect to repeat in 2021 but then again, mortgage doesn't get a pass either. I'll talk more about BHG in a few minutes but BHG continues to issue great report cards every quarter. Wealth management had a big year as their fees were up 17.5% year over year.

We expect they will have a great year in 2021 as they have made several key hires in the latter part of 2020 across our markets.

As to expenses, as we've stated in the press release, 4Q '20 expenses were higher than anticipated due to a discretionary bonus award approved by our Board last week.

As we've stated in the past, our annual cash incentive is tied directly to results. Due to COVID, we failed to hit our EPS targets this year due primarily to the required increased provision as a result of CECL adoption.

During the year and as I mentioned last quarter, we modified our cash incentive plan to incorporate a PPNR component. All in, our plan would have calculated a 50% target opportunity based on a modified structure of the plant.

Our PPNR results will help us ramp into 2021 with a lot of momentum. The Board elected to increment their award for participating associates modestly to 65% of targets given the impact of COVID to our 2020 results.

Just so you know, missing our target payout on incentives resulted in $25 million in savings to our results, coupled with a similar issue for equity incentive compensation, and that was another $6 million in savings in 2020. That approximates $0.31 per share that found its way to our bottom line and into tangible capital in 2020.

Speaking for the employees of our firm, we are hopeful those savings aren't repeated in 2021.

All of us, obviously, are pleased with the Board's decision and what the additional $0.15 means to some 2,200 planned participants. That said, we missed this year and the focus for 2021 will be to overachieve.

So our 2021 plan design will still target top quartile performance within our peer group and still incorporate both EPS and PPNR targets. The leadership of our firm is determined to not let a trend develop on a less than target payout to our associates. That's a trend we will work hard to avoid and to do it, we will look forward to meeting and exceeding our financial objectives in 2021. Quickly some comments on capital.

Our Board has approved the authorization of $125 million buyback program. The previous program expired at year end 2020.

We will begin to consider deploying of those funds soon but are not likely to see any material impact from the authorization in the first quarter of 2021.

We also have a couple of sub debt issuance that are up for renewal this year.

So we will consider redemption and/or refinance in due course. The board increased the quarterly dividend yesterday. But given all of our shareholders, we are grateful for that as well. We affirm that we are so many things.

We are focused on growing earnings per share and PPNR in an outsized way, and we are also intentional about growing tangible book value per share. We've accomplished a lot of things since year end in [2016]. One thing we are particularly proud of is that since that time, we've increased our tangible book value per share by 85%.

We will continue our focus on tangible book value per share growth. Not going through this slide in depth as we have covered most of this previously. Obviously, we appear more optimistic than most. That said, we have a great confidence in our people, our markets and our clients and renewed optimism around reopening of our local economies Now to BHG. This is a familiar slide to most and provides a snapshot of BHG's business flows over time and more importantly, how they're holding up during the pandemic. The blue bars on the chart are originations have ramped up with more loans being funded with records being set nearly every quarter for the past three years. Business flows are strong and their model is hitting on all cylinders. The green bars represent loans on which gain on sale has been recorded as these loans are sold downstream banks. This is the traditional BHG model with gain wholesale revenues being generated.

As you can see, the green bars are fairly flat, not necessarily because of the appetite for their loans has decreased but because of the building of balance sheet loans and diversifying their business model with interest income. Coupons have fluctuated over the last three years, ending down at 13.8% for the fourth quarter.

As to bank borrowings, they also fell to 4.3% in the fourth quarter. The good news is that net spreads remain in the mid-9s, which over time has been up from previous years. The bottom right chart details now over 1,200 banks in BHG's network and almost 700 individual banks acquired BHG's loans in 2020. This has to be one of the strongest funding platforms for our gain wholesale model in the country. There are firms out there trying to replicate this, but they've got to get real busy, real fast to find a funding platform like BHG. Like I said last time, it's taken 20 years but it belongs to BHG, they own it, they developed it and they capitalize on it. The top left chart, we've shown on several occasions. The quality of BHG's borrowers has improved steadily in the past and over the last few years but particularly in 2020. They continue to refine their scorecards and increase the quality of the borrowing base. Again, the right chart and I said before, may be the most powerful chart I have to offer related to BHG's steadily improving credit quality.

Looking at losses by vintage, losses continue to level out in earlier months since origination, thus, pointing toward a lower loss percentage over the life of the underlying loans. Pandemic related events will likely cause these lines to move upward, but the quality of the borrowing base, in our opinion, is very impressive and is much higher than the bars from just a few years ago. We've updated BHG's charge-offs and reserve build chart. These are for loans that BHG has sold to their network of community banks. The green bar shows that currently they have more than $3.6 billion in credit with banks who have acquired BHG loan. The orange line details the annual loss rate, while the blue line on the chart details the recourse accrual as a percentage of outstanding loans with these other banks. 2020 losses landed at 4.26%, basically consistent with the last two years and during the year where who knew how COVID would impact loss rates. The recourse obligation reserve is used to reserve for future losses for the loans sold to other banks. With COVID, they increased the reserve in the first quarter and incremented it slightly. One note that may be of important interest to some. Included in the 4.26% is also prepayment losses related to early payouts.

So good borrowers that pay off early, BHG reimburses the bank for unpaid premium.

Just so you know, that makes up about 30% of the 2020 year-to-date loss rates. We don't anticipate any significant lift in recourse reserves in 2021.

Lastly, we said it last quarter and we'll see it again. It's been a big year for BHG and we anticipate big things in 2021.

During the third quarter of 2020, the credit markets improved, which allowed BHG's opportunity to execute on their first $160 million securitization. Appreciate that that securitization went out with investment grade rating. This allows BHG to continue to diversify its revenue stream, not so much away from gain on sale but with incrementally more interest income, as well as provide another competitively priced funding source to its business model. We're expecting another similar securitization at BHG in early 2021. The chart on the top right is a little new. It shows the trends related to the more important line items on BHG's balance sheet.

As noted at year end 2020, BHG held over $200 million in cash and slightly over $1 billion in loans, funded by almost $650 million in borrowings. The red bar I find both interesting and comforting. BHG has over $500 million in reserves and capital. It's a healthy franchise. It's a sound franchise.

So wrapping up. Loan growth for Pinnacle in 2021 will take work but we are optimistic. Loan pricing in the fourth quarter held. Deposit growth has been remarkable. Deposit pricing is headed down. BHG had another great year and credit for both Pinnacle and BHG is very much managed. To say I'm pleased with how this quarter and year ended up is again an understatement. It's difficult to relate the significant effort that my colleagues are putting forth every day, working with clients and solving their problems through this weird time. We all know it's a difficult operating environment. Loan demand is sluggish at best and who knows where the yield curve is headed.

However, the bright spots for Pinnacle are [mid]. Depositors continue to trust us and borrowers seem to have figured out how to manage their businesses through this cycle.

Our operating leverage also remains top quartile. We do have the best clients and discipline remains very important.

Additionally and hopefully, COVID-19 finds its way to our rearview mirror. Last quarter, we had hoped for an effective vaccine.

This quarter, we have a vaccine.

In fact, we have many vaccines, hope has transitioned to tangible optimism.

Our recruiting platform is scoring all over the franchise. We do like our franchise and where we do business and with whom we do business. Migration patterns continue to favor Tennessee, to Carolinas and Georgia. We like our competitive prospects. We remain a force in Tennessee as well as in several markets in the Carolinas.

We are winning in Charlotte, Raleigh, Charleston, and as I've said before, we think we can score big in Atlanta.

So with that, I'll turn it over to Tim to talk about credit.

Tim Huestis

Thank you, Harold. Using the traditional credit metrics of net charge-offs, NPAs, classified assets and past due loans, Pinnacle's loan portfolio continues to hold up very well. We acknowledge that for some of our clients, the first half of 2021 may prove challenging but we remain optimistic given the combination of the new stimulus package, additional PPP loans to our clients and the COVID vaccines.

As in the prior two quarters, our bankers and credit teams completed thorough client credit reviews by collecting monthly financial statements and/or rent roles to reevaluate our borrowers' assigned risk rate. Particular emphasis was placed on our non-pass credits and on the loans that we had rated a low pass risk rate due to COVID. The results for our fourth quarter work were encouraging.

Our classified assets decreased $46 million.

For criticized loan category, we had a modest net increase of $100 million. This minor increase was in part attributed to three hotel construction loans that construction had just been completed during the fourth quarter. We moved these hotel loans into a criticized rating to be consistent with our conservative hospitality grading methodology applied in prior quarters. The balance was made up of small loans and an assortment of property types or industries. Similar to the second and third quarters, during the last two weeks of December, we conducted a four question survey of 258 C&I clients with loan balances totaling $653 million. The survey was targeted at our low pass grade clients in a wide variety of segments, such as entertainment, restaurants and consumer services. Three of the questions we're asking the borrowers' estimates of, revenue for fourth quarter 2020 compared to fourth quarter 2019, first quarter revenue 2021 to first quarter 2020, full year revenue for 2021 compared to full year 2020 and the last question was regarding months of liquidity on hand to cover operating expenses. The responses remain guardedly optimistic. 60% said fourth quarter 2020 revenue would be between 75% to 100% of fourth quarter 2019. 72% estimated first quarter 2021 revenue would be between 75% to 100% of first quarter 2020. 90% estimated full year revenue for 2021 to be between 75% to 100% for year end '20 and 53% reported seven months of liquidity or greater.

During the first and second quarters of 2020, when COVID's economic impact was largely unknown, Pinnacle proactively reached out to clients to offer loan payment deferrals.

Our payment deferrals range from 90 to 180 days and were administered with minimal credit qualification.

Given the obvious challenges at that time, we did not attempt to re-underwrite and assign new borrower risk rate. We approached the deferrals as a short term solution or bandaid to help clients in a period of uncertainty with very little incremental risk to us in our view. Pinnacle's philosophy regarding 4013 loan modifications is much different.

Our modifications were negotiated from the framework as the longer term solution to help our clients bridge to the other side of COVID.

Our philosophy was to improve the bank's position and to simultaneously help our clients. With each modification, we collected very current borrower financial information in our efforts to accurately rerisk rate the borrower and to contemplate the terms of our modification. A key distinction between our deferrals and 4013 modification is that the vast majority of our clients with the 4013 modification are paying interest monthly.

As illustrated in the table, our hotel loans make up 63% of our total 4013 modifications, 52% of our hotel loans have a 4013 modification.

While each individual hotel loan modification was negotiated to fit the borrowers' specific circumstances, our modifications generally consisted of changing the loan repayment terms to interest only for three to 12 months in consideration for borrower concessions, such as pay the accrued interest that accumulated during the earlier deferral period, establish an interest reserve on deposit with Pinnacle and shorten the loan maturity.

As illustrated in our supplemental deck, our hotel book is held up.

Our hotel portfolio occupancy for November was 48.7% compared to STR's national occupancy average of 40.3%. We attribute this to our history of conservative hospitality underwriting, and our books composition of limited service economy and extended stay hotels. This slide is to provide detail around the segments of our loan portfolio that redeemed COVID high impact.

As this slide exemplifies, even within these segments, the performance is held up. We believe a few of the contributing factors for this performance include client selection. We hire experienced bankers. They bring their best clients with them. Pinnacle's very successful PPP program for our clients. And finally, excellent early problem loan detection coupled with a very experienced special assets team. Pinnacle's credit metrics have held up well.

We will continue our client by client defensive work throughout 2021.

As Harold indicated, We will be working with our clients in the next few weeks to again deliver an outsized PPP loan program to provide them added security. And now I'll hand it back to Terry to talk about moving forward in this pandemic.

Terry Turner

Thanks, Tim.

As part of our first quarter 2020 earnings call last April, I told you that my expectation was in the final analysis, 2020 wouldn't be about 2020's earnings but more about how well we can position our firm to return to our previous earnings trajectory following the pandemic. Harold and Tim have done a great job of highlighting the various moves to shore up liquidity and asset quality and loss taking capacity in the form of incremental capital and loan loss reserves.

Our Board was equally nimble to provide incentive for us to focus on building PPNR, which as you can see, is exactly what we did in the last half of 2020. And in addition to that, even in this pandemic, we hired 90 revenue producers in 2020, more than any other year in our history, which I believe has served us well as we're beginning to transition back to a more offensive footing and position this firm to capitalize on what some believe will be extraordinary market share taking opportunity following the pandemic.

As I mentioned in my introductory comments, in my view, fourth quarter was an outstanding quarter with NPAs at 38 basis points, classified assets down to 8.1% and past due to 19 basis points asset quality appears excellent. Adjusted EPS was up 24% over the same quarter last year. Adjusted PPNR was up 27% over the same quarter last year and revenues were up 20% over the same quarter last year. We believe that BHG has validated the power of their differentiated model as they've continued to originate and sell record volumes of loans through their proprietary auction platform and have also successfully securitized loans in what was the first commercial or consumer loan transaction to be rated AA by CRO on its inaugural issuance, another testament to the quality and value of the assets they generate.

All of this during the period some predicted might be disastrous. And as we've already pointed out, even with the dramatic EPS and PPNR growth ins 2020, we still figured out how to afford to hire 90 revenue producers in 2020.

And so as was our goal, we find ourselves well positioned to move back to offense as the pandemic subsides and the economy reopens. Happily, my guidance as we move into first quarter 2021 is that you should expect us to continue focusing on the same items we've been focused on over the last several quarters. Operator, I'll stop there, and we'll be glad to take questions.


[Operator Instructions] Our first question comes from Stephen Scouten with Piper Sandler.


So Terry, as a follow-up on your last statement there that you're back kind of on the more aggressive side of things from a hiring perspective. If I'm doing the math right, it looks like you hired maybe 34 new…


Steve, we got some kind of wired connection. I really can't understand what the question is.


Okay. I'll hop back in the queue…


If you could repeat it.


I can just hop back in the queue.

Let me make sure my technology is working.

Sorry about that, guys.


Our next question comes from the line of Jennifer Demba with Truist Securities [Technical Difficulty]…


Stephen, this is Terry. I'm back in. I'm in a new room where I can -- I think I can hear you now.

So would you repeat the question?


I think Stephen may have hopped off. This is Jennifer.

So two questions for you. Number one, Terry, you said you want to be more aggressive now, again, with hiring, but you also have a premium currency again. I'm wondering what your interest is in M&A now versus your interest in more hiring in '21 and '22? Thanks.


So just as a reminder, my view today as my view has always been is that we are primarily an organic grower, and our principal mechanism or core capability to get that done is our ability to attract and hire great bankers in the markets. And as you know, we're in some really attractive markets with relatively low share positions.

And so I think you ought to expect that we're going to continue to push on our organic growth model, our hiring, which we believe will be good.

And so that will be the principal thrust of our company. Jennifer, it's a great question. There's no doubt. I guess over time, I've been asked the last few years about M&A and so forth. And my own view was that our stock was unfairly treated. And I believe that it traded at a premium as people start investing in bank stocks based on book value -- my thoughts compressed more than others, that's my view. Others may have a different one. But anyway, to net all that is it didn't cause me to say, well, I wouldn't be interested in trying to deploy my stock as a currency when it is so significantly disadvantaged. I don't think I would characterize M&A as my principal thrust.

As I said, my principle thrust will be to grow organically. But I think it does open up additional possibilities that can be considered and looked at and evaluated so forth, trying to make sure we're making whatever the next best smart play is. But again, I guess I don't want that to get overweighted in my commentary there. The principal mechanism we intend to deploy is organic growth primarily through hiring people.


Second question, if I could. What changes in your strategy do you envision post pandemic, whether it be less need for corporate real estate, or branches, or how you meet with clients and prospects and do business or travel? Can you just talk about how you think that could change the Pinnacle strategy over the long run?


Yes. I'm confident there will be changes. But honestly, Jennifer, for us, I believe that they will be modest.

So just to recap why I believe that.

As you know, we're principally a commercial bank, so our branching strategy has been built around that.

Of course, BNC had a little different model, a little heavier in terms of branch distribution in some of their markets. But in the great growth markets that we desire to win in, like Charlotte, like Raleigh and then, of course, Atlanta where we've de novo, I mean we're at a distribution disadvantage.

So we're not like a lot of companies that have this legacy branch distribution network that needs to get shared or trimmed back or whatever, we're likely on the other end of that.

Just to sort of put that in context for you, Jennifer, I think since we did the BNC deal, we announced that 2017.

I think we've closed about 20 offices in our footprint. They're, obviously, concentrated in the BNC footprint.

So we think we've sort of rightsized or optimized the distribution that we have. Again, I just want to make sure you get the picture.

Our position is that we're investing in Charlotte, we're investing in Raleigh, we're investing in Charleston, South Carolina and we're invested in Atlanta.

And so we could use more distribution in those markets. Again, I think as you talked about on travel and some of those variables. Again, our strategy is a geographic strategy so we're generally calling in local markets. There's no doubt that today feedback is a lot of clients are just seeing you call them on the phone and come see them, but that's not a meaningful dip in our travel budget. And my expectation is that from a strategic standpoint, the investment that we're trying to make in technology, I would say, is focused on two things. The things that we consider are generally focused on trying to keep us as a fast follower in terms of commercial capabilities. We're focused on the pain points of our clients, not just -- we're not trying to have the Swiss Bank. We're just trying to focus on what is it in real terms that clients need. And then I guess the additional aspect of that is we're trying to put our FAs, our financial advisers, our client facing people in a position to be more effective and more productive. And all that means is we're trying to gather more information, get it to them in a way that they can use that in advising clients and so forth.

So that's really where both our investment will be over the next several years.

So I don't look for major changes in our strategy.

I think it's pretty simple and pretty much straight ahead.


The next question comes from the line of Stephen Scouten with Piper Sandler.


Can you hear me this time around?


Yes, we can.


So I'm curious, I know you touched on this with Jennifer's question, but just the pace of new hires in particular, I mean, net-net, you ended up being pretty flat for both of the last two years, but look like about 34 new revenue producers here in fourth quarter.

So I mean do you think on a relative basis, 2021 could be significantly more active than the last two years on a hiring basis standpoint?


I think it will be more active.

I think the variable, Stephen, as you know, if the vaccine is much slower coming out, those kind of things that could slow the process because the length of the sales cycle, whether you recruit the people or moving business is lengthened in a COVID environment, so that would weight for the negative side. But I think on the positive side, our reputation is really strong in the markets that we're trying to grow in. And the vulnerability is really high at many of the large bank competitors with whom we compete, lots of turnover going on in several of those organizations. And to your point, the hiring was actually really strong in the fourth quarter. And my expectation is that if it's one way or another, it ought to be stronger in 2021 than in 2020.


And I'm curious on the loan growth side of things. I know Harold said kind of overall demand still looks sluggish. Obviously, you guys have benefited more from these new hires and your continual kind of hiring plan that occurred over time. But I'm wondering, especially in fourth quarter, what kind of changed to the upside? It seems like growth was maybe better than even you all would have anticipated, say, at this time last quarter on the call.

And so just kind of curious what transpired in the quarter that came out better than you would have expected and what you see apart from the new higher growth as you look into 2021?


I wish I could put my finger directly on it. But I think, in large part, I believe, there were some construction projects that began to fund up.

I think also, we saw some year end C&I borrowings coming in all lines of credit. And I'm hopeful -- I can't put my finger on it exactly, but I'm hopeful there's some optimism with some borrowers.

So maybe that will continue into the first quarter. We think first quarter loan growth is going to be fairly sluggish. But I'm hopeful that people begin to see like some renewed optimism and willing to take some risks.


And then maybe just last thing for me, following up maybe a little bit on Jenny's M&A question would be, just where would the size of a potential deal need to be at this point in your life cycle to really make sense for you guys to pursue it or move the needle? I mean it's a lot different from when you would have done M&A three, four years ago.

So I'm just curious what your views are in terms of maybe asset size of where something need to be for it to be relevant?


I'd just say that we focus on it more from the EPS accretion standpoint than we do anything else, but you can sort of back into an asset size that would yield that sort of earnings accretion. But generally, we're looking for something that's going to produce double digit earnings accretion. It would be hard for us to get interested in doing something that didn't do that.

And so that said, I mean, you've probably got to get on out there to $5 billion bank or north to begin to produce -- have the chance to produce in that sort of earnings accretion.


Our next question comes from Steven Alexopoulos with JP Morgan.


Maybe to start for Harold.

Regarding the high single digit guidance for expenses for 2021. Is that off the base of adjusted expenses, the $548 million or is that off total, $577 million?


I think you should use the $577 million, Steven, based on what we think are hiring and the recoupment of that incentive accrual, that will probably be the number that you should use.


And then on BHG, so we're seeing the bank industry start to release reserves more so this quarter. Do you see it likely that BHG starts to release reserves here over the near term? And maybe is that in the high single digit guidance that you're giving in terms of earnings growth?


No, I'll say it this way. Based on what I've seen regarding their plans for next year, there's no planned reserve release. But obviously, they'll be monitoring that. And if it looks like there should be some, they will probably consider that in next year's results but we're not thinking that in our high single digit number.


But if we look at where they're net charge-offs came out for the year relative to where the reserve is now, it would appear they're fairly dramatically over reserved. Will you agree with that?


I would agree with that.

I think they've built a very healthy balance sheet. Like I said, we're comforted by that balance sheet, and I would not be surprised to see some reserve release next year.


And then finally, if I look at the fee income outlook, obviously, you guys, like everybody else will have this mortgage fee headwind to work through. And I think you're calling for strong fee income growth in 2020. Can you help us think about -- I'm not sure what you mean by strong. Can you help with that?


Yes. I'll try to talk around it.

So mortgage, we're not anticipating a repeat by any stretch. Most of the other business units, we are anticipating or expecting, might be a better word, strong fee growth out of the nonmortgage units. That said, it's probably going to be somewhere around mid single digit kind of numbers we're looking at currently. Hopefully, we can get to that.


Our next question comes from Brett Rabatin with Hovde Group.


I wanted to first just go back to talking about core deposits you're looking for, I think, slower deposit growth going forward but you obviously had really strong core deposit growth in the fourth quarter. Can you maybe just talk about -- and I think you had 12% growth in deposit accounts, so obviously, really strong. Can you just talk about the pace that you're slowing from here? What's driving the growth in fourth quarter versus the anticipation of a slower growth profile going forward?


I think there are several things going on in there, Brett.

I think number one, let me back up here and try to put it in a broad perspective.

Going back over the last couple of years, we have said about and I've used this term internally as we talk with our associate that we're about changing the personality of our firm.

I think reputationally, we'd be viewed to be great asset generators. We've probably not been viewed to be as strong in terms of core deposit generators.

Some of that tied into the commercial thrust of the franchise and those kinds of things. But irrespective, we have said about changed the personality of the firm and say, okay, so what does that mean? What that means is in 2020, we altered our incentive plan. We've always focused on earnings primarily, secondarily on revenue growth in 2020. We switched to provide instead of the revenue to focus on deposit growth, both volume and cost. And that was an important thing to help us beat the drum, change the mindset and so forth.

I think that has many quantifications as people work on their diligence and gathering deposits and so forth.

I think beyond that, we also launched a number of different initiatives, some of which have some pretty long lead times. But we have built a great platform for HSAs as an example, which we believe is a phenomenal market opportunity for us. We've also built capability to bank property managers, homeowners associations, those sorts of organizations with sort of value added accounting support, that's beginning to pay dividends, paid dividends in 2020 for us. We've focused on qualified settlement funds and various other products. We've got a product that is focused on captive insurance for middle market businesses, that's an opportunity middle market businesses have.

And so we're finding strong growth there.

So I don't need to go on and just give you a feel bust but I want to put it in perspective. There's a lot of things going on that are structural in change in the personality of our firm to be a better deposit gatherer and there's some product capabilities that are beginning to pay dividends, and I expect to pay dividends going forward.

Now where we are, as you know, there's tons of liquidity on our balance sheet that has to do with nothing but PPP. And in other words, a bunch of money got put on our clients' balance sheet as a result of that. And then in addition to that, a lot of those business clients in this kind of environment build their own liquidity to whatever means, the mechanisms they have beyond PPP.

And so all that stuff going on, some of it is a function of what's going on right now tied into COVID, some of the function of the structural changes that we're trying to make.

So I've rambled through all that to get down to this. We ought to see a diminishment in this liquidity build.

Our case is we think this economy will begin to reopen in the latter half of this year.

So you ought to have some diminishment in liquidity that's associated with PPP and other corporate liquidity that weighs on slows the growth, it should diminish. But we do also have these initiatives that we think are going to continue to pay dividends.

So again, I'm just trying to give you the puts and takes there.


And then the other thing I was curious about was just the buyback. Do you anticipate being active with the buyback this year or you at more of a re-up? And your stock is, obviously, a lot higher than it was. And if your growth is going to be there then maybe you don't get to use it.


Well, right now, the planning assumption is that we'll use probably 80% of it this year or into the first quarter of next year. We'll, obviously, use it to defend the stock when we need to. And the impact to earnings is not nearly as significant as it would have been otherwise given where the share price is. But I think we'll spend a significant portion of that money at some point during the year.


Our next question comes from Jared Shaw with Wells Fargo Securities.


Just looking at the second round of PPP, you guys are so successful with it in the first round. Can you give us some help, I guess, just thinking about the potential size of the second round? And then as you are going out and working with your customers on that, how successful are you, I guess, targeting those -- maybe those unrated commercial customers that you're more concerned about earlier on in getting them a second round?


Let me just update you based on this morning. We're at about almost $600 million in application flow on the second round. More than 90% of that were borrowers that were involved in the first round of PPP last year.

So if you remember, last year, we did 14,000, 15,000 loans and $2.3 billion, $2.4 billion in balances. We don't anticipate nearly that kind of level. We're somewhere thinking based on the surveys we did over the last couple of weeks with the prior borrowers that we're probably going to be somewhere around maybe almost $1 billion if we can get to that number.

So that's kind of where we're thinking we're going to end up at with respect to the second program. Is that what you were looking for Jared?


Yes, that's great. And then when you look at where that $1 billion is going and you overlay that with your -- the credits you're still more concerned about, how much penetration do you think you're going to get with those COVID sensitive industries or those borrowers that still are struggling a little bit more?


Yes, I think a lot of those will go to hotels, retail, restaurants and entertainment for sure. But I think this time there will be fewer big dollar kind of loans.

I think it will be largely to smaller businesses that are trying to get through these next few months.


And then looking at those 90 hires you did in the year. Are you seeing or do you anticipate a longer period of time for them to sort of breakeven or be able to ramp up and get their customers in based on COVID and when should we think that, that really starts contributing to the bottom line?


I think generally what our -- just from 30,000, Jared, what our client assumption has always been on the revenue producers that we're hiring. Generally, we're hiring people have big books of business and so forth.

And so depending upon whether you're talking about a middle market banker, a private banker, a broker, a mortgage originator and so forth, there are some different dynamics in terms of how those people get their books moved. But generally, we expect them to consolidate the vast majority of their book over three to four year period of time, call it, four years.

Our belief is it generally ought to work that way. We generally believe that they're going to get through breakeven in the first 12 months. There may be some slowness in there but it's not a lot. In other words, it does take us -- as I mentioned earlier, it does take us a little longer to recruit somebody and get them in the boat and we did it without COVID. It takes them a little longer to get their book moved than I think it did pre COVID. But I don't mean it's like stress to elongate to the year.

I think it elongates it a month or two kind of thing.

So we don't have dramatically different planning assumptions about how quickly they'll cross breakeven or how quickly they'll consolidate their outlook.


Our next question comes from Brock Vandervliet with UBS.


I wonder if we could just start with BHG. I was curious about that reserve level. Did they adopt CECL or not yet?


No, they have not adopted CECL.

I think they are two years out from having to formally adopt CECL.

So no, they're not CECL compliant yet.


So they might have more flex in managing that level.

Okay. And on the bank buy rate, I appreciate that disclosure. I had thought that if there was potentially an issue with BHG, you might see the bank pull away as soon as COVID broke and obviously, that didn't happen. I was wondering if you had any color about the tick down in the bank buy rate here in the fourth quarter.


I think when I talked to the BHG folks and we'll get an update here in a couple of days, the auction platform is very competitive. They've seen numbers where bank yields are getting down into the high 3s because that paper is so attractive to them.

So yes, it's a very solid -- they kind of restricted the flow into the auction platform with the buildup of the balance sheet, trying to get ready for this next securitization. But right now, there's a lot of banks after that paper.


I'll follow up more on that offline.

You mentioned sticking to credit, a couple of construction loans were moved to criticized that had just been completed. What's the outlook for those? Are those just kind of now considered stabilized financing, or are you waiting for a third party take out there?


Not waiting for a third party takeout. We did have a few of our construction loans that were modified where we provided a longer interest only period. I would say we moved them into that risk rate category, purely just to be consistent with prior quarters. We felt like the hospitality industry was such where it was just prudent to move them into criticized.


But for a loan that was formally construction, there's no issue with it remaining on balance sheet. It just remains there at probably reasonably attractive terms?



I think there were a couple of those that we, as a modification, established an interest reserve that they would put on to deposit with Pinnacle to kind of help them weather through COVID until travel and hotel occupancy rates increased.


Our next question comes from Michael Rose with Raymond James.


Most of my questions have been answered, but I wanted to get some clarification, Harold, on the NII guidance. Is that inclusive of PPP? I think you had like $56 million in 2020.

Just trying to figure out what the base is? And then does that include any of the round two that you're talking about? If you can just kind of help us from a starting point?


It does include forgiveness of -- I think I've got $40 million in accretion coming from the PPP program. Most of that will happen in 2021 but it does not include any kind of income from the second round.


So it is inclusive of PPP.

Okay. That's helpful. And then just as I think about the average loan and deposit growth targets that you laid out. Is that off of a full year average for both of those? Because if I look at the average deposit growth, I mean, it would imply a pretty big reduction in deposits just year-on-year if I'm looking at the full year average?


Now normally on loan and deposit growth, we're talking about the ELP growth.

So let me know if you have any more [Technical Difficulty] around that?


Yes, I can follow up off-line.

Okay. That's all I had. Thanks.


The next question comes from the line of Catherine Miller with KBW.


You've given a lot of PPNR guidance, which I think is helpful, and I think it's clearly shown some upside from where consensus is sitting today.

And so that leaves the provision, which I know is a big unknown for everybody and hard to predict. But I wanted to see if you could just -- as you sit here today and you're thinking about how your borrowers are behaving and what you're seeing in your markets. What would be your best guidance to the sense of timing of when we'll start to see losses flow in, and perhaps also your expectation for when we may start to see more -- I mean, we had a little bit of reserve release this quarter, but maybe more active reserve release and when those two things may come together? Thanks.


Catherine, I'll speak to reserve release and what we're kind of thinking about, and then I'll let Tim talk about loss count in. Yes. We think there's probably a high likelihood of reserve release this year. We did a little bit in the first quarter.

Our planning assumption is that we'll have some this year, not a lot. But it's also pretty -- I mean, you can probably get to a more significant reserve release pretty quickly depending on the success of the rollout and what that does to unemployment by the end of the year.

So I guess what we've been talking about over the last couple of quarters has been you'd see a reserve build. We felt the reserve would be fairly flat here in the fourth quarter. It actually went down a little bit. We thought we could see kind of a flattish reserve for the first half of 2021 and then start seeing loss content emerge towards the end of the second quarter, end of the third quarter and then looking at a bigger reserve release at the end of the year, but it looks like on the reserve release side that may be happening a little quicker than we had originally thought. Does that make sense?


It does. And is unemployment the biggest piece that's driving that, or how much of it is also being driven by your specific credits?


As far as the ratio, allowance to loans not the absolute level of the allowance, charge off expense, which has been relatively benign so far, as well as any kind of nonperforming past dues, nonperformance charge-offs, all influence reserve. But you're right, the biggest influencer that's in basically every model, every credit model that we're using for CECL is the biggest macro influencer would be unemployment before [debt].


And then on timing of losses?


I would tell you that certainly, the rollout of the vaccine and the fiscal stimulus will help, I think, to the extent that we've got a very successful PPP loan program, again, that will serve as a mitigant. But my intuition and anecdotal as the losses going into 2021 will be similar, probably a little bit higher first and second quarter, not a dramatic change but maybe a slight uptick.


Our next question comes from Brian Martin with Janney Montgomery.


Harold, just back to your question on, or the last question on the reserve. I mean, just can you kind of put a range around as you kind of get through and get more comfortable with credit, continue to see that happen kind of where that post COVID reserve to loan, I guess, if that's your looking at the reserve to loan ratio kind of might range to or maybe a range of where you think of that ends up?


Well, we're not thinking anything around the terms of where it was pre-COVID.

So we were down into that 40, 50, 60 basis points in that number. I really don't know how deep it can go. It's very difficult to forecast these credit models into the future, like to try to peg what our number might be at the end of this year given a certain unemployment forecast.

So there's a whole lot of guess work going on. It just seems like the trends are with respect to loss content, nonperformers and the like that we'll see some decrease. Side bar and $4 will get you a cup of coffee at Starbucks, I think it will be an interesting conversation over the course of the year for not only us but all banks as we start seeing reserve releases and when the regulators show up regarding that.

So I don't think you'll see us get us anywhere near what we had pre-COVID, but we should see some meaningful reductions in our reserves because we had significant build over the course of last year, and we really don't think we'll see that loss content material.


And just can you just kind of comment a little bit on the pace of reduction in the wholesale fundings and kind of the size of the balance sheet as you go forward here, kind of timing of that? And then maybe just kind of the influence on the margin and the kind of the core margin?


Yes, we've got -- I think that there's a slide in the deck, a chart in the deck that talks about like $2 billion in wholesale funding. Most of that's in broker deposits that we fully intend to redeem.

I think the average yield on those things, already on those things is somewhere around 50 or 60 basis points.

So that will have a positive influence on our margins or deposit pricing, so on and so forth. In the third and fourth quarter, we don't have a whole lot of opportunities for wholesale reductions. I'll say that kind of optimistically. By the time we get to that part of the year, perhaps some prepayment penalties related to Federal Home Loan Bank borrowings that will come down.

And so we may reevaluate prepayments on Federal Home Loan Bank borrowings. I've got about $1 billion of that left on our balance sheet.

As I said earlier, the prepayment penalties on that today is just a little bit rich for our appetite, but we may reevaluate that towards the end of the year.


And then maybe just one for Tim.

Just Tim, I guess, I know you said that criticized maybe went up a touch this quarter. I guess would your anticipation be that we're at a peak on the criticized levels now based on kind of the outlook for credit?


I do.

I think there could be a little bit more migration, but I do. A lot of our criticized, as you know, is the hotel book and we pour over that every quarter and I described that criticized level as very stable. We think it will take some time to migrate back into a past grade just given the depths of what happened in the hospitality industry. But my own intuition or based on these in-depth quarterly reviews, I feel like that's about these.


That concludes today's question-and-answer session. Ladies and gentlemen, this concludes today's conference call. Thank you for participating.

You may now disconnect.