Community Financial System Q4 2024 Earnings Results & Report

Community Financial System EPS Results

• Actual EPS: $0.94
• Consensus EPS: $0.90
• Beat/Miss: Beat by +$0.04
• One Year Ago EPS: $0.76
• EPS Beat Rate: 4 of last 8 quarters

Community Financial System Revenue Results

• Actual Revenue: $196.30 million
• Expected Revenue: $190.95 million
• Beat/Miss: Beat by +$5.35 million
• YoY Revenue Growth: +10.80%

Community Financial System (NYSE:CBU) (NYSE: CBU) is a diversified financial services company headquartered in DeWitt, New York. Its principal banking subsidiary, Community Bank, N.A., provides a broad range of financial products and services to individuals, families, farmers, small businesses and commercial customers.

The company’s banking operations include deposit accounts, residential and commercial lending, agricultural financing, consumer loans, cash management and other business banking services. Through additional business lines, Community Financial System also provides wealth management, retirement and employee benefit plan administration, investment services, and insurance solutions.

Community Bank, N.A. serves customers through a branch network and digital banking channels across upstate New York and portions of Pennsylvania, Vermont and Massachusetts. The company traces its history to the 19th century and was formerly known as Community Bank System, Inc. before adopting the Community Financial System name to reflect its broader range of services. Dimitar A. Dimitrov serves as president and chief executive officer.

Community Financial System Q4 2024 Earnings Call Transcript

Key Takeaways

• In Q4 2024, the company delivered $1.40 operating PPNR per share, up 8.5% QoQ and 23.9% YoY, driven by margin expansion, strong fee income and disciplined expense management.
• For full year 2024, operating PPNR per share grew 8.2% (vs. a 5% decline in the industry Carex Index) and operating EPS rose 2.2%, despite an elevated ACL build to 76 bps of loans.
• The Banking & Corporate segment saw loans grow 7.5% (gaining market share across commercial, mortgage and home equity), net interest income rose for the 18th consecutive year and fee income increased 11.8%, all while maintaining the lowest cost of funds in its peer group.
• The Employee Benefit Services business posted 11.8% revenue growth and 11.9% operating income expansion on record assets and participants, and completed key acquisitions that fueled the majority of the company’s earnings improvement.
• Looking to 2025, management expects mid-single digit loan growth, continued market share gains, further ACL additions toward historical credit costs, 16 new branches (offset by consolidations) and a sustained focus on delivering above-average returns with a below-average risk profile.

Presentation

[Operator]

Good day, and welcome to the Community Financial System, Inc. Fourth Quarter 2024 Earnings Conference Call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star, then one on your telephone keypad. To withdraw your question, please press star, then two. Please note this event is being recorded. I would now like to turn the conference over to Dimitar Karaivanov, President and Chief Executive Officer. Please go ahead.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

Thank you, Mike. Good morning, everybody, and thank you for joining our fourth quarter and full year 2024 earnings call. This was a very solid quarter for us, with operating PPNR of $1.40 per share, which grew 8.5% compared to the prior quarter and 23.9% compared to last year's fourth quarter. Those are excellent numbers. There is a lot to be pleased about, such as margin expansion and excellent liquidity, strong fee performance, strong credit, and well-managed expenses. I will leave all the quarterly details to Joe and would like to really focus on our overall 2024 performance and 2025 outlook. As we look back upon 2024, I'm pleased with the performance of our company.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

In a year where the overall KRX Index is projected to have lower earnings to the tune of approximately five percent, we actually grew operating PPNR per share by 8.2% and operating earnings per share by 2.2%. The delta between the two is mostly due to our increase of ACL from 69 basis points of loans at the end of 2023 to 76 basis points of loans at 2024, which prepares us better for the future and also a negative variance on the effective tax rate. The drivers of our outperformance are a great example of the power of our diversified company, and I will go into more details below. In the banking and corporate segment, 2024 operating PPNR grew by 5.6%.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

Net interest income grew for the 18th consecutive year, and fee income grew by 11.8% as the number of initiatives we've been working on for the past couple of years are now delivering results. Loans grew by 7.5%, or more than double the expected growth of both the banking industry and our local peers. In other words, we gained a lot of market share. Commercial lending was particularly strong, with double-digit growth, while mortgage and home equity both grew over six percent. The investments we've been making in people and processes continued to bear fruit. Overall lending growth was $728 million, and overall deposits grew by $514 million, or four percent, also an excellent result in a difficult environment. In the latter part of the year, we saw commercial and personal deposits resume their historical performance, and that gives us hope for future periods.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

In 2024, the Federal Reserve ended its hiking cycle, and we can now confidently state that we had the lowest cost of funds in the KRX Index during the period with a deposit beta of 22%. Speaking of liquidity, we also boosted our borrowing capacity and now have $5.8 billion of available liquidity to tap, or 246% of net uninsured deposits, a level that I believe is truly peer-leading. Credit quality remains very strong with 2024 charge-offs of 10 basis points, which is roughly half of that of the KRX Index, and as mentioned, our ACL now represents over seven years of coverage at these levels. In the employee benefit services business, we had an excellent year. Revenues expanded by 11.8% and operating income expanded by 11.9%.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

We're managing a record amount of assets, have a record number of participants, and are seeing real tangible benefits of our growing nationwide reputation. We also successfully deployed capital and integrated a couple of acquisitions. This segment drove the majority of the improvement for the overall company earnings in 2024, and given its uniqueness for us compared to peers, really stands out. In the insurance services segment, we grew revenues by 6.7% and continued to expand and strengthen the footprint via acquisitions. We had a strong capacity in the North Country, where we also have the leading banking footprint, and this past quarter entered the Buffalo market, where we can now benefit from our commercial presence and expanding retail presence on the bank side. Operating earnings were impacted by elevated expenses, and we're very focused on that in 2025. The wealth management services business also had a very strong year.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

Revenue growth of 14.9% and operating income growth of 22.9% were truly excellent. Of note, we had over $1 billion of new advisory sales in 2024, and the benefit of many of those will be realized in 2025 and beyond. The business is energized, active, and collaborating effectively with the banking business. So 2024 was very good, and now on to 2025. My expectations for 2025 are that we will continue to gain market share across the board, continue to attract excellent talent, and continue to grow the reputation of our businesses. As I think about each business, my outlook is as follows. In the banking business, I expect that growth will remain solid, though likely will moderate from latest levels.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

We have consistently guided towards mid-single digits and have consistently outperformed in the past couple of years due to the market and competitive opportunities we saw to attract talent and clients. Those opportunities still exist, but I expect that we will have more competitors who are back after being essentially frozen since 2022 due to liquidity concerns. The flip side of that is that I also see half a dozen of our competitors who recently announced transactions, which may force them to manage capital and concentrations more actively. So we may see elevated opportunities, in particular, in CRE lending. Time will tell, but as always, it is important to have a balance sheet that serves as a source of strength. For now, mid-single digit seems appropriate. Funding will remain, as always, our top priority, and we have a number of initiatives which are still ramping up.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

And with a loan-to-deposit ratio of 78%, we have plenty of capacity as is. We continue to expect that credit costs will trend back up to historical averages and thus have been slowly inching up our ACL, and I expect some of that to continue. We will also be opening up 16 more branches, and that will cause some increase in expenses in the interim investment phase. Most of those will occur in the second and third quarter, so I expect some increased marketing and operating expenses in those periods. As we have committed previously, we will also be consolidating a similar number of branches and managing other expenses tightly in order to exit 2025 with a cleaner expense run rate. Just bear in mind it will be a bit more volatile this year than prior years on a quarter-to-quarter basis.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

In the employee benefit services business, we're entering 2025 on the heels of outstanding revenue and operating income growth, high asset values, and a nationwide reputation. The growth momentum is very good, and assuming asset values stay in line, we would be looking for mid-to-high single-digit revenue expansion. We're going to be making some additional investments in products and people, especially in our trust and fund administration vertical, which are important for future periods but will impact expense growth in 2025. In the insurance services segment, our main focus in 2025 is operating efficiency. We have gained a lot of revenue growth over the past few years and spent most of 2024 laying out the new organizational structure and responsibilities. M&A will continue to be a focus and supplement organic growth with overall expectation of revenue growth in the mid-to-high single digits.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

In the wealth management services business in 2025, we're launching new products on a nationwide basis and actively adding producers while continuing to increase penetration across our client base. Assuming asset values stay where they are, revenue growth is likely to be closer to mid-to-high single digits as we have also a couple of producer departures to work through, though none of those will meaningfully impact operating earnings performance due to their associated expenses. In the aggregate, I'm very optimistic about our performance in 2025 and beyond. The foundational work and investment that has been put in place since 2021 has muted our bottom-line performance since then, while revenues continue to improve in line with our diversified business model. In 2024, we outperformed the KRX Index in earnings performance, and my expectation is that we will continue to deliver above-average returns while managing to a below-average risk profile.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

These were definitely longer than my usual remarks, and now it's finally time to pass it on to Joe.

[Joseph Sutaris, CFO at Community Financial System Inc]

Thank you, Dimitar. Good morning, everyone. As Dimitar noted, the company's fourth-quarter performance was strong. GAAP earnings per share of $0.94 were up $0.31, or 49%, over the fourth quarter of the prior year and up $0.11, or 13%, over linked third-quarter results. Operating earnings per share and operating pre-tax, pre-provision net revenue per share were also up significantly on both a year-over-year and linked quarter basis. The company recorded operating earnings per share of a dollar in the fourth quarter as compared to $0.82 one year prior and $0.88 in the linked third quarter. Fourth quarter operating PPNR per share of $1.40 was up $0.27 per share, or 23.9%, from one year prior, and $0.11 per share, or 8.5%, on a linked quarter basis.

[Joseph Sutaris, CFO at Community Financial System Inc]

Full-year GAAP earnings per share, operating earnings per share, and operating PPNR per share were up 40.4%, 2.2%, and 8.2%, respectively. Strong revenue growth underpinned these results. In the fourth quarter, the company recorded total operating revenues of $196 million. This was up $19.1 million, or 10.8%, from one year prior, and up $6.9 million, or 3.7%, from the linked third quarter. These results marked the sixth consecutive quarter of increases in total operating revenues while establishing new quarterly highs for net interest income, employee benefit services revenues, and wealth management services revenues. On a full-year basis, total operating revenues increased $41.3 million, or 5.9%. The company recorded net interest income of $120 million in the fourth quarter.

[Joseph Sutaris, CFO at Community Financial System Inc]

This represents a $7.2 million, or 6.4%, increase over the linked third quarter result and a $10.8 million, or 9.9%, improvement over the fourth quarter of 2023, and also marks the third consecutive quarter of net interest income expansion. An improvement in the yield on interest-earning assets supported by continued loan growth and lower funding costs helped drive increases in both net interest income and net interest margin in the quarter. During the quarter, the company's cost of deposits was 1.23%, which was consistent with the prior two quarters, while the total cost of funds decreased six basis points from 1.44% in the third quarter to 1.38% in the fourth quarter due to a decrease in borrowed funds costs. The company's fully taxable equivalent net interest margin increased 15 basis points from 3.05% in the linked third quarter to 3.2% in the third quarter.

[Joseph Sutaris, CFO at Community Financial System Inc]

As Dimitar mentioned, 2024 also marked the 18th consecutive year the company increased net interest income, and the outlook remains positive for continued net interest income expansion in 2025. Operating non-interest revenues were up in all four businesses compared to the prior year's fourth quarter and represented 38.6% of total operating revenues. Banking-related operating non-interest revenues were up $1.9 million, or 10.2%, over the same quarter of the prior year, driven by increases in mortgage banking revenues and deposit service and other banking fees, including customer interest rate swap fee revenues. Employee benefit services revenues were up $3.9 million, or 13.1%, over the prior year's fourth quarter, reflective of an increase in total participants under administration and growth in asset-based fees.

[Joseph Sutaris, CFO at Community Financial System Inc]

Insurance services revenues were up $0.6 million, or five percent, over the prior year's fourth quarter, driven by recent acquisitions, while wealth management services were up $2 million, or 24.9%, reflective of more favorable market conditions and growth in investment advisory accounts. On a linked quarter basis, operating non-interest revenues were down $0.3 million, or 0.4%. During the fourth quarter, the company recorded $125.5 million in total non-interest expenses. This compares to $129.1 million of total non-interest expenses in the prior year's fourth quarter. The $3.6 million, or 2.8%, decrease between the periods was mainly driven by several non-operating expenses incurred in the prior year's fourth quarter, totaling $9.2 million. Excluding the impact of these non-operating items, non-interest expenses increased $5.6 million, or 4.7%, over the prior year's fourth quarter, primarily driven by increases in salaries and employee benefits and data processing and communication expenses.

[Joseph Sutaris, CFO at Community Financial System Inc]

On a full-year basis, total operating non-interest expenses increased $24.1 million, or 5.4%, consistent with the mid-single digit growth rate mentioned during prior quarterly earnings calls. Reflective of an increase in loans outstanding and qualitative factor adjustments, the company recorded a $6.2 million provision for credit losses during the fourth quarter of 2024. This compares to $4.1 million in the prior year's fourth quarter and $7.7 million in the linked third quarter. On a full-year basis, the company recorded $22.8 million in the provision for credit losses as compared to $11.2 million in 2023. The effective tax rate for the fourth quarter of 2024 was 22.8%, down from 23% in the fourth quarter of 2023. On a full-year basis, the company's effective tax rate was 22.9%. Ending loans increased $180.7 million, or 1.8%, during the fourth quarter.

[Joseph Sutaris, CFO at Community Financial System Inc]

This marks the 14th consecutive quarter of loan growth and is reflective of the company's continued investment in its organic loan growth capabilities and expansion into undertapped markets within our Northeast footprint. This included growth in the business lending, consumer mortgage, home equity, and consumer direct lending portfolios, offset in part by a decrease in the consumer indirect loan portfolio due to seasonal factors. Ending loans were up $727.8 million, or 7.5%, from one year prior, reflective of growth in all five lending portfolios. The company's ending total deposits decreased $34.5 million, or 0.3%, during the fourth quarter, driven by a decrease in municipal deposits. Fourth-quarter deposit funding costs of 123 basis points were flat compared to the prior two quarters. Non-interest-bearing and low-rate checking and savings accounts continue to represent almost two-thirds of the total deposits, reflective of the core characteristics of the company's deposit base.

[Joseph Sutaris, CFO at Community Financial System Inc]

Ending deposits were up $513.6 million, or four percent, from one year prior, driven by increases in municipal and business deposits. The company did not hold any brokered deposits on its balance sheet during 2024. The company's liquidity position remained strong. Readily available source of liquidity, including unpledged cash and cash equivalents and investment securities, funding availability at the Federal Reserve Bank's discount window, and unused borrowing capacity at the Federal Home Loan Bank of New York totaled $5.77 billion at the end of the fourth quarter. These sources of immediately available liquidity represent over 240% of the company's estimated uninsured deposits net of collateralized and intercompany deposits. The company's loan-to-deposit ratio at the end of the year was 77.6%, providing future opportunity to migrate lower-yielding investment securities into higher-yielding loans. At the end of the year, all the company's and the bank's regulatory capital ratios significantly exceeded well-capitalized standards.

[Joseph Sutaris, CFO at Community Financial System Inc]

Excuse me. More specifically, the company's Tier 1 leverage ratio was 9.19%, which substantially exceeded the regulatory well-capitalized standard of five percent. Non-performing loans totaled $73.4 million, or 70 basis points, of total loans outstanding. At the end of the year, this represents a $10.5 million, or 9 basis points, increase from the end of the linked third quarter. Comparatively, non-performing loans were $54.6 million, or 56 basis points, of total loans outstanding one year prior. Loans 30-89 days past due were also up on a linked quarter basis from $47.2 million, or 46 basis points, of total loans outstanding at the end of the third quarter, to $55.9 million, or 54 basis points, of total loans outstanding at the end of the fourth quarter. The company recorded net charge-offs of $3.2 million, or 12 basis points, of average loans annualized during the fourth quarter.

[Joseph Sutaris, CFO at Community Financial System Inc]

This is up from $2.3 million, or 10 basis points, in the same quarter of the prior year. On a full-year basis, the company recorded net charge-offs of $10.1 million, or 10 basis points, of average loans outstanding. The company's allowance for credit losses was $79.1 million, or 76 basis points, of total loans outstanding at the end of the fourth quarter, up $2.9 million from the end of the third quarter and up $12.4 million from one year prior. Although credit loss reserves increased during the fourth quarter due to qualitative factors, overall, the company's asset quality remained solid. The allowance for credit losses at the end of the fourth quarter represented over seven times the company's full-year 2024 net charge-offs.

[Joseph Sutaris, CFO at Community Financial System Inc]

We believe the company's diversified revenue profile, strong liquidity, regulatory capital reserves, stable core deposit base, and historically good asset quality provide a solid foundation for continued growth in 2025. Thank you. Now I'll turn it back to Mike to open the line for questions.

[Operator]

We will now begin the question-and-answer session. To ask a question, you may press star, then one on your telephone keypad. If you are using a speakerphone, please pick up your handset before pressing the keys. If at any time your question has been addressed and you would like to withdraw your question, please press star, then two. At this time, we will pause momentarily to assemble our roster. The first question comes from Steve Moss with Raymond James. Please go ahead. Hello, Steve. Your line may be muted.

[Matthew Breese, Managing Director and Research Analyst at Stephens Inc]

Oh, whoops. Sorry. I was on mute. Morning, guys. In terms of the, I appreciate all the color on the growth here, both on the loan growth side and the fee side. Just maybe starting with loans here, just curious, where is the loan pipeline today? Does it remain strong heading into the early part of the year? And maybe, perhaps, moderation as the year goes on? Just kind of curious on dynamics you guys are seeing, along with loan pricing.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

I think on the pipeline, Steve, it remains reasonably in line. I would probably split it up in a couple of buckets. The commercial pipeline is in line with our last few quarters. It's been consistent around a similar level. So I expect that we'll be pulling those through in 2025. The mortgage pipeline is solid, very consistent with last year, which was a very good year. The one business that's a little bit more hard to predict and a little bit more volatile is our auto lending business. And typically, the first quarter is not the best quarter in that business, so we'll see how that plays out. But again, I think we're going to continue to have really good opportunities. We think we're gaining market share in literally every one of those businesses.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

But just mid-single digit for us is really what we feel comfortable with for 2025 at this point.

[Steve Moss, Analyst at Raymond James]

Got it. And just kind of curious, what are you guys seeing for rates on the commercial side in particular?

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

Right around seven right now. Certainly, some products, you'll see some rates a little bit lower, but most of those are priced off of the five-year, roughly. So as the rates have gone up here a little bit, we're writing loans today at higher rates than at the beginning of December. So I think seven-ish on average is kind of where we are on a blended basis.

[Steve Moss, Analyst at Raymond James]

Okay. Got it. And then in terms of the margin here, helping step up with regard to the margin funding costs coming down and continued benefit from upward asset repricing and higher loan yields. Kind of curious, I hear you guys in terms of NII growth, but just how do we think about that margin trajectory here?

[Joseph Sutaris, CFO at Community Financial System Inc]

Steve, I think. This is Joe. I think the expectations around margin are continued or we expect it to continue to grow and expand a bit in 2025. Net interest income is obviously the item that we focus a bit more on, and that is also expected to increase throughout 2025. Kind of the dynamic here is that our book yield right now on loans is 5.58, I think, for the quarter. We're booking new loans at seven. If we do nothing more than just replace what's coming off, the expectation is that we'd expand the interest income side of the NII equation.

[Joseph Sutaris, CFO at Community Financial System Inc]

And if we do no better than keeping funding costs flat, and our hope and expectation is that we can bring those down a bit, but if we do nothing more than hold those flat, we would just have expansion through the loan side of the equation. And obviously, as Dimitar just noted, we're expecting some incremental increase, kind of mid-single digit growth in the loan portfolio. So that gives us additional opportunities for net interest income expansion. So I think we signaled on the last quarter's earnings call that three to four to five basis points quarter-over-quarter was a reasonable expectation around margin. We obviously did a little bit better than that this quarter. But so that's our expectation that we're going to continue to expand NII in 2025. Obviously, as we get later into the year, that could change if the market changes.

[Joseph Sutaris, CFO at Community Financial System Inc]

But right now, the market setup is pretty good for expansion.

[Steve Moss, Analyst at Raymond James]

Okay. Appreciate that. And then in terms of the expense volatility here, I apologize if I missed it, but kind of just curious, how are you guys thinking about maybe full-year growth? I hear you with the de novos coming on, but just obviously, your fee-income businesses are showing good growth overall. So I would assume a pretty healthy step-up in expenses here for the year.

[Joseph Sutaris, CFO at Community Financial System Inc]

Yeah. I think that's a fair expectation, Steve. We're continuing to invest in all of our businesses, and that's investing in talent and systems and the like. And we put a lot of investment in in 2022, 2023, and into 2024, and we're going to continue to invest. So I think kind of mid-single digits, maybe a little higher than we had this year in terms of operating expense growth, is probably a fair estimate for next year. And I would also like to remind you that in the first quarter, we typically have a pretty significant increase in expenses over the fourth quarter because all of our merit increases go through. We have a full load of payroll taxes and just generally higher expenses in the first quarter.

[Joseph Sutaris, CFO at Community Financial System Inc]

And what's actually kind of unique is we actually have snow this year in Upstate New York, and typically, we just have higher maintenance expenses on the buildings for snow removal, etc. So I would expect that the first quarter, we'd see some significant increase over the fourth quarter run rate. And then, but on a full-year basis, still kind of thinking mid-single digits.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

Yeah. I think, Steve, I'll just add there a little bit more color on the branches, kind of on the new expansion. I think in the second and probably mostly in the late second, third quarter, we're going to see about $4 million-$5 million of expenses in terms of marketing, just kind of brand awareness, market presence, events that are going to be associated. We're going to get those are obviously going to be kind of a one-timer type of things, and we're going to get most of them back in the fourth quarter by the time we consolidate some of the existing locations. So that's our goal, is to exit Q4 2025 with a pretty good clean run rate, having revamped our branch network and capabilities, but there will be a little bit of volatility in between.

[Steve Moss, Analyst at Raymond James]

Okay. Great. I appreciate all the color, and I'll step back here. Thanks, guys.

[Operator]

The next question comes from Frank Schiraldi with Piper Sandler. Please go ahead.

[Frank Schiraldi, Managing Director at Piper Sandler]

Good morning.

[Joseph Sutaris, CFO at Community Financial System Inc]

Morning, Frank.

[Frank Schiraldi, Managing Director at Piper Sandler]

Just back on the margin, trying to think through the linked quarter increase, and was there anything more volatile in terms of maybe prepayment income on a linked quarter or just some seasonality in the back book repricing? Just kind of wanted to see, get a little more color on that 15 basis points versus kind of three, four, five basis point quarter over quarter growth you guys talked about in the NIM on sort of a normalized basis here.

[Joseph Sutaris, CFO at Community Financial System Inc]

Yeah. It's a very fair question, Frank. Just a couple of things that probably are worth noting is we did have a Federal Reserve Bank and Federal Home Loan Bank dividend both in the fourth quarter. We don't necessarily have both in a given quarter, other than kind of in the fourth and I think in the second quarter. So that will contribute a bit to the increase in the outcome for the fourth quarter. We did have some loans that kind of came off non-accrual status, and that gives you a little bit you recoup some of that interest income, which was not a big number for the quarter, but probably added one or two basis points overall to the NIM.

[Joseph Sutaris, CFO at Community Financial System Inc]

So if you were to kind of strip those items out, it's not a 15 basis point quarter-over-quarter increase, hence the indications of a little lower expectation going forward. So I think that's part of it. The other thing too is that, and this is probably noteworthy, we have some seasonality in our municipal deposit base, and that includes a significant tax collection period at the end of really kind of the end of October. What that does is it reduces any sort of overnight borrowings at four and change, four and a half, call it, and goes into the deposit base, which is a little less expensive. Then over time, those kind of drift down, you potentially go into overnight borrowings, and that could compress the margin going into the first quarter.

[Frank Schiraldi, Managing Director at Piper Sandler]

Great. That's great color. And then just on the employee benefits business, you guys talked about mid- to high single-digit revenues for this year. And Dimitar, you also mentioned some investment in the business. Just wondering if this is a year where you would expect to get positive operating leverage in that business, or just wondering how extensive those investments might be, specifically in that employee benefits business.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

Yeah. So Frank, the way I would think about it is, look, our expectation is that we get positive operating leverage in every year in every business. The benefits business is one that half of its revenue is essentially tied to the market. So that has a meaningful impact depending on what happens with the market. The investments that we're going to make themselves can be easily offset if we get a reasonable market outcome. But if the market is flat, then those investments will be a little bit heavier. We fully expect we're going to make more money in that business in 2025 than in 2024, even with all of that. So that's how we think about it. So this year, for example, if you look in the business, we had excellent growth on the top line. We basically were flat in terms of operating leverage.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

The margin expanded a little bit, but we made a lot more money on the bottom line. So I would expect 2025 to be somewhat similar where the growth rates on the top line and the expense side might be similar, but just the way the math works is we're going to make more money since we have a pretty healthy margin in the business.

[Frank Schiraldi, Managing Director at Piper Sandler]

Okay. All right. Great. And then just if I could sneak in one more, just really a clarification. Dimitar, I think you touched on it in your comments, but in terms of credit, I think you talked about continued sort of credit normalization here. I'm not sure if you mentioned reserve. Do you anticipate, as you get continued normalization here, that you do see some continued reserve builds in 2025?

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

Yeah. We do expect that. And maybe the way at least I put it in my simple math is kind of what is our normalized credit loss content? And 10 basis points is great, but it's probably not that over the cycle. So there will be points in the cycle where the numbers will go up a little bit. We talked to our investor at 15 basis points through the cycle is our goal. So if you were just to take some number between 10 and 15 and say, "Okay, you need to have five and a half years of coverage," because that's kind of the life of our portfolio, you can kind of back into some math there of what that means for the reserve. We're sitting at seven years today at 10 basis points, but that 10 basis points probably drifts up rather than down.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

I mean, credit remains great. We have six basis points of charge-offs in our commercial credit book. That's terrific. We've got one basis point of charge-offs in the mortgage book. But we do expect that over time, that's just not sustainable. Maybe we'll be surprised positively. I hope so. But we'd rather be safe than sorry on that front.

[Frank Schiraldi, Managing Director at Piper Sandler]

Got it. Okay. I appreciate all the color. Thanks.

[Operator]

The next question comes from Matthew Breese with Stephens Inc. Please go ahead.

[Matthew Breese, Managing Director and Research Analyst at Stephens Inc]

Good morning.

[Joseph Sutaris, CFO at Community Financial System Inc]

Hi, Matt. Good morning, Matt.

[Matthew Breese, Managing Director and Research Analyst at Stephens Inc]

I wanted to hone in a little bit on loan yields and the cadence of loan yields expansion. So this quarter, loan yields were up seven basis points to 5.58. And Dimitar, you mentioned roll-on yields are in kind of a seven percent range. So I was just curious if that's seven basis points we saw quarter-to-quarter, is that a decent proxy for how at least the early part of 2025 can go? And I was hoping also you could talk a little bit about payoff activity, the extent and the speed of which you're seeing payoff activity. And yeah, maybe I'll pause there and just get a couple of some more color on those two items.

[Joseph Sutaris, CFO at Community Financial System Inc]

Yeah. Matt, this is Joe. That expectation of seven or eight basis points per quarter seems a bit high, and the reason is that we still do have a portfolio of floating-rate loans, right, that adjust to the short end of the curve. And so some of those reductions that we saw in the latter part of 2024 haven't fully hit the book yet. And if we get additional reductions from the FOMC in 2025, that works against improving loan yields by six or seven basis points a quarter. So we still have to effectively feel the full effect of the recent rate cuts. We'll get most of that in the first quarter. If there's additional rate cuts, that'll work against us a little bit. Most of our book, though, however, to Dimitar's point, is priced off of kind of that five-year part of the curve.

[Joseph Sutaris, CFO at Community Financial System Inc]

If that continues to stay where it is and we continue to book new loans around seven, that's going to be, I'll call it helpful for the overall outcome. But I would not expect to see seven or eight basis points on the full book yield improvement quarter-over-quarter.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

Yeah. I think on the refi question, Matt, certainly we've seen a little bit more today than a few quarters ago, but not a lot. I mean, the rate differential there is not quite there for the clients, especially as the back end of the curve has moved up. So I think right now we're below average kind of trends on prepayments. If rates don't really move much, I don't see that changing. And I think the benefit that we have is over the past 24 months when most of the folks were really focused on keeping their balance sheet flat and not having liquidity enough to lend, we went out and we got as many seven and a half type assets as we could, great quality assets. And those should stay with us a little bit longer than usual, I think, unless rates really move down dramatically.

[Matthew Breese, Managing Director and Research Analyst at Stephens Inc]

Got it. Okay. And Dimitar, when you said the five and a half years duration of the book, if you exclude floating-rate loans, which I think is around 10.5%-11% of total loans, what is the duration of the adjustable and fixed-rate book?

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

That's a good question, Matt. We may have to come back to you on that one. Also keep in mind that a good chunk of our book is in our indirect auto business, and that's really more of a kind of a three-year duration. So the five and a half I was using was more blended, but we will get back to you on that topic.

[Matthew Breese, Managing Director and Research Analyst at Stephens Inc]

Got it. Okay. I appreciate that. And then I wanted to just touch on deposit costs. It's been a few good quarters for you, and most of the industry is reducing costs at this point, but granted, you are quite a bit lower on deposit costs overall than a lot of your peers. So it's a black and white question. I'm just curious, are you seeing pressure to increase deposit costs despite rates coming down, or are you seeing opportunity to reduce costs? If so, to what extent? Thank you.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

Yeah. No, the answer there is simple. No pressure to increase costs. And I think, yeah, if you look at our numbers, I mean, our deposit cost was basically the same. However, the mix behind that is very different than quarter to quarter. So remember, in the third quarter, we get a whole chunk of municipal deposits, which typically go into higher-cost money market accounts. So that changes kind of the mix during the quarter. During the quarter, we took quite a few steps in terms of moving a whole chunk of our deposit base down in terms of cost. From what we can tell, our competitors have done very similar kind of actions across the board. So there is really very little in the way of pressure to pay for deposits today.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

I think everybody's been eagerly waiting for the opportunity to lower some of their deposit funding, and we're seeing it across the board. Clients expect it because the way they expected it on the way up. I think it's no surprise to them that now it's coming on the way down. So I think we're going to continue to grind those costs lower. Again, our mix is 70% roughly of our deposits are essentially zero or very low cost. So when you're sitting at three basis points in a savings account, you can cut it by one basis point, and that's a 33% decrease, but it doesn't move the numbers that much.

[Matthew Breese, Managing Director and Research Analyst at Stephens Inc]

Understood. Okay. And then last one for me, Dimitar, I was hoping you could talk just a little bit about the regulatory environment. This morning, it looks like Travis Hill has been tapped as Acting Chairman of the FDIC. He's been very vocal about speeding up the M&A approval process. And I'm curious if that might make you any more likely to participate in M&A near term.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

Yeah. I mean, I think on the regulatory side, the way we think about it is that it should not be negative. So clearly, we've seen some accelerated approvals in the past few months. I think that's a good sign. I think the tone is more constructive. I think as it relates to M&A, the regulatory piece was never really in our way of considering M&A. And in the past few years, we've been very close to that point of announcing a transaction, and we just haven't for various reasons. Those sellers did not go away. They're still around. And I think they're not getting any younger either. So probably we'll have some more opportunities in 2025 and beyond. And certainly, we'll feel maybe a little bit better on the margin about the timeline of those approvals. But we'll continue to participate at terms that make sense for us.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

We generally believe that we are the highest value bid, not necessarily the highest price bid, but the highest value bid. And if we find people that really understand that on the other side, then we'll have something to talk about. And if we don't, hey, we're growing at a pretty robust pace to ourselves, so we don't really need to do anything.

[Matthew Breese, Managing Director and Research Analyst at Stephens Inc]

Great. That's all I had. Thank you for taking my questions.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

You're welcome.

[Operator]

Our next question comes from Chris O'Connell with KBW. Please go ahead.

[Chris O'Connell, VP and Equity Research Analyst at KBW]

Thanks. Good morning. Just following up on that last question regarding bank M&A in particular, does the current de novo expansion effort on the branch side, does that preclude you or does that change your view on doing any type of bank M&A in those expansionary markets over the next year or two?

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

It does not, Chris. We look at our ultimate end game in those markets as a lot more than what we have today and what we will have to perform for our branch openings. So certainly adding density, frankly, in any market that we can is always a priority for us. To us, density is the permanence in the business. So we're looking to that. I think just in terms of as we look at transactions, it's not just really about dots on the map. It is, does that franchise bring to us liquidity that we can work with, or do they use it all themselves and also usually concentrate themselves out along the way? So if that's the case, then it's just a little bit less attractive, right, because we don't have a lot of room left to create value for our shareholders.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

So certainly look at all of those markets, but again, look at it through the lens of things that really make sense for us to add more value rather than just purely dots on the map.

[Chris O'Connell, VP and Equity Research Analyst at KBW]

Got it. And then regarding the timing of that de novo effort, by the end of 2025, do you see the full adds and then net consolidations being complete at that time, or do a few of those drift into 2026?

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

That's definitely the goal. All of these have a construction component to them, so it's not perfectly visible. But we're off to the races with many of them under construction, and we do have dates for openings. So we expect that by the end of 2025, we'll be pretty much done. There might be one or two stragglers if things don't really pan out on the construction side, but I don't think it's going to be more than that.

[Chris O'Connell, VP and Equity Research Analyst at KBW]

Okay. Great. And then just circling back to the margin discussion, one just first off, do you guys have the December spot margin?

[Joseph Sutaris, CFO at Community Financial System Inc]

It was very comparable to the full quarter in terms of the exit margin in December.

[Chris O'Connell, VP and Equity Research Analyst at KBW]

Okay. Got it. And then can you just walk us through what the security maturity schedule is over the course of 2025 and 2026, and maybe if there's any in particular large chunks or quarters with big maturities?

[Joseph Sutaris, CFO at Community Financial System Inc]

Yeah. So 2025 is a fairly light period for security maturities. Call it $100 million-$150 million of principal and interest cash flows coming off the securities portfolio, Chris. And part of that is, if you recall, we did the repositioning back in 2023 and actually pulled forward some of the 2025 cash flows. And then as we walk into 2026 and the latter part of 2026, we have a pretty significant maturity of some treasury securities. I think it's call it $350 million. Then as we walk into 2027, there's approximately another $700 million of security maturities. So we'll really get to the more significant parts of those maturities really in late 2026 and 2027. So call it a billion dollar in 2026 and 2027.

[Chris O'Connell, VP and Equity Research Analyst at KBW]

Okay. Great. And then lastly, I know you guys have been making some efforts, especially to expand the fee capabilities with new swap offerings that have gone well in the back half of 2024 in terms of the banking fee rate there. Do you see that expanding into 2025, or is the back half of 2024 a pretty good starting point?

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

I think the back half of 2024 is a good starting point, Chris. We certainly were reasonably successful in 2024. I think between the swaps and the capital markets activities, it was close to $4 million in terms of fee income. And the way the world works is when you do well, you expect to do better the next year. So we expect to do better. It really is market dependent because we had opportunities in 2024 on the swap side in particular with the curve, the way it was inverted, where it was clearly a lot more advantageous for our clients to borrow in the swap market than on the fixed side with on-balance sheet solutions. The curve is not as inverted today. So in fact, it's not inverted at all. So those opportunities are not quite as appealing today.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

So it really is dependent on what the interest rate curve does. But we think that, again, our expectation is we'll do reasonably well. We have other initiatives that probably kind of took full run rates on our checking side in the latter part of 2024, and those should stay with us going forward. So 2024 is a good second half was, I think, a decent run rate to use for going forward.

[Chris O'Connell, VP and Equity Research Analyst at KBW]

Got it. And then just last one, any additional color on the single multifamily loan that drove the uptick in the NPLs this quarter?

[Joseph Sutaris, CFO at Community Financial System Inc]

Yeah. Chris, we just had one property in our call it our Central New York footprint that was about a $12 million loan balance for us, and the absorption on the property was a little bit slower than initially anticipated. We are carrying a specific reserve against it, but we don't know at this point. It's too early to tell, but there's potential opportunities for additional equity to come into the property, which potentially could right itself. But just kind of I'll call it normal course of business. Occasionally, you're going to have a project that there's some challenges on. This is one of those. So I don't think there's anything that's indicative of a larger problem or anything. This is just kind of a one-off situation with a particular property.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

Yeah, and just to add to that, Chris, a little bit kind of on the credit side as we talk, we expect that things are going to kind of move a little bit more in that direction. I mean, right now, we have less than a handful of specific reserves against credits. And historically, we've had more than a handful of specific reserves against credits. We're not necessarily surprised that the trend is going to be a little bit more of that. And we're certainly spending more time working those things out. And we don't necessarily expect a lot of losses, but we'll see how things play.

[Chris O'Connell, VP and Equity Research Analyst at KBW]

Got it. Appreciate the time. Thank you.

[Joseph Sutaris, CFO at Community Financial System Inc]

Welcome.

[Operator]

And your next question comes from Manuel Navas with D.A. Davidson. Please go ahead.

[Sharon Gee, Equity Research Analyst at D.A. Davidson]

Good morning. This is Sharon Gee on for Manuel. Thank you for taking my questions. For my first question, a little bit on the securities book. So looking at where interest rates fit today, is there any update to potentially restructuring of the securities portfolio?

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

I think with the rate background today, that's probably unlikely. We do have the benefit of knowing exactly what and when we're going to get it because of our book being the vast majority of it being treasuries. So it's an easy math for us to do in terms of the payback on those types of opportunities. But right now, as we sit here today, that doesn't make a lot of sense to us given the numbers.

[Sharon Gee, Equity Research Analyst at D.A. Davidson]

Thank you. And then do you see any concerns with the chip stocks given the mixed Trump commentary?

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

We do not. So in fact, the investment and the subsidy, if you will, that Micron is receiving from the government got approved late last year. So that's finalized. Construction is beginning here in the second quarter of this year. So we don't really see much in the way there. And I think more importantly, the critical nature of these projects is a bipartisan issue. So we don't think that's going to change much. Again, for us, we don't really plan anything around it. We're planning for what we can do in general. And if that happens, that's a nice gravy on the top. But all of our plans are as they are with or without Micron.

[Sharon Gee, Equity Research Analyst at D.A. Davidson]

That's great to hear. All of my other questions have been answered. So I'll step back. Thank you.

[Joseph Sutaris, CFO at Community Financial System Inc]

Thank you.

[Operator]

This concludes our question and answer session. I would like to turn the conference back over to Dimitar Karaivanov for any closing remarks.

[Dimitar Karaivanov, President and CEO at Community Financial System Inc]

Thank you, Mike. And thank you to all of our investors, employees, and analysts for joining this call. We had a pretty good 2024, and we look forward to a very productive 2025. Talk to you soon.

Participants

Executives

• Dimitar Karaivanov, President and CEO
• Joseph Sutaris, CFO

Analysts

• Matthew Breese, Managing Director and Research Analyst at Stephens Inc
• Steve Moss, Analyst at Raymond James
• Frank Schiraldi, Managing Director at Piper Sandler
• Chris O'Connell, VP and Equity Research Analyst at KBW
• Sharon Gee, Equity Research Analyst at D.A. Davidson