Atlantic Union Bankshares (AUB) Q1 2023: Deposit Costs Climb 56bps, Margin Compression Drives Expense Discipline
Atlantic Union Bankshares entered 2023 navigating deposit remixing, rising funding costs, and regulatory noise, but maintained resilient client relationships and stable credit. As deposit betas surge and net interest margin compresses, management is pivoting to tighter expense control and conservative loan growth, signaling a shift from offense to defense. The call’s tone underscored a commitment to soundness and profitability, with eyes wide open on macro risks and industry volatility through year-end.
Summary
- Deposit Competition: Surging deposit costs and remixing forced a more defensive margin management stance.
- Expense Control: Leadership is tightening cost growth to preserve positive operating leverage as revenue outlook moderates.
- Conservative Outlook: Loan growth and margin guidance reflect caution amid macro and regulatory uncertainty.
Business Overview
Atlantic Union Bankshares (AUB) is a diversified, full-service regional bank operating primarily in Virginia and adjacent markets. The company generates revenue through net interest income, driven by commercial and consumer lending, as well as non-interest income from service charges, asset management, and mortgage activities. Its business is split between retail and business banking, with commercial real estate (CRE) and commercial & industrial (C&I) lending as core pillars, and a deposit base considered a strategic franchise asset.
Performance Analysis
AUB’s Q1 results reflected the industry-wide pressures of deposit repricing and margin compression, with net interest margin (NIM) dropping 20 basis points quarter-over-quarter to 3.50%. Roughly half of this decline came from increased reliance on wholesale borrowings, as the bank prioritized liquidity following late-2022 deposit outflows and industry turmoil. The cost of deposits jumped 56 basis points to 1.28%, with management highlighting an ongoing shift from non-interest-bearing to higher-cost interest-bearing accounts, a trend expected to continue through 2023.
Loan growth remained moderate at 3.8% annualized, with C&I lending the primary driver and construction lending notably slow due to developer caution. Non-interest income declined, mainly from lower loan swap fees and a securities sale loss, while expenses were elevated by a $5 million legal reserve for an ongoing CFPB matter. Despite these headwinds, AUB delivered positive adjusted operating leverage, with revenue growth outpacing expense growth on a year-over-year basis.
- Deposit Mix Shift: Non-interest-bearing deposits fell to 28% of total, down 3 points from Q4, with further normalization expected.
- Funding Cost Pressure: The rise in deposit and borrowing costs outpaced loan yield improvements, compressing margin and driving a balance sheet restructuring.
- Expense Run Rate: Adjusted expenses tracked seasonal highs, but leaders are now targeting low single-digit growth to protect operating leverage.
Credit quality remained benign, with net charge-offs rising to 13 basis points annualized due to a single legacy memory care facility, but no systemic deterioration observed. The allowance for credit losses increased to 90 basis points of loans, reflecting both loan growth and a more cautious macro outlook.
Executive Commentary
"Reflecting on all that went on in the industry over the quarter, it was the remixing of deposits and the sharp acceleration of deposit rate competition, higher than we anticipated, that was more consequential for us than the bank failures and subsequent industry turmoil."
John Asbury, Chair's President and CEO
"We executed a balance sheet restructuring by selling $506 million of available for sale securities in order to reduce funding costs and bring our total securities holdings to 15.5% of total assets which approximates our historical level. We viewed this as an attractive trade with a short earn back that was more about reducing funding costs and raising liquidity."
Rob Foreman, Executive Vice President and CFO
Strategic Positioning
1. Deposit Franchise Resilience
AUB’s granular deposit base—72% insured or collateralized—proved resilient during industry turmoil, with no material outflows attributed to safety concerns. The bank’s relationship-centric approach, including proactive client outreach and use of insured cash sweep (ICS) products, helped retain core deposits as the sector faced confidence shocks.
2. Margin Management and Balance Sheet Restructuring
Facing a structurally higher cost of funds, management executed a $506 million securities sale to reduce expensive wholesale borrowings and boost liquidity. This move is expected to be accretive to future earnings and tangible equity, but highlights the need for ongoing margin defense as deposit betas rise toward 40% and NIM guidance is reset lower.
3. Expense Discipline and Operating Leverage
With revenue growth outlook softening, leaders are shifting to tighter expense controls, targeting low single-digit operating expense growth for 2023. This includes broad-based cost management, delaying discretionary investments, and adjusting incentive compensation, all to preserve positive operating leverage in a more challenging revenue environment.
4. Credit and Asset Quality Vigilance
Credit normalization is expected, but current asset quality remains stable, with no systemic office CRE risk flagged. The office portfolio is weighted to suburban and medical properties, with long-term leases to local tenants, and is closely monitored for early warning signs. The allowance build reflects a prudent stance amid macro uncertainty.
5. Conservative Growth and Capital Management
Loan growth guidance (4%-6%) is intentionally conservative, reflecting management’s expectation that pipeline pull-through may slow as borrower caution rises. Capital preservation is prioritized, with no share repurchases in Q1 and capital ratios well above regulatory minimums.
Key Considerations
This quarter marks a pivot from growth to defense, as AUB responds to rapid deposit cost inflation, margin compression, and regulatory scrutiny. Investors should focus on the interplay between deposit pricing, expense control, and loan growth as key determinants of forward profitability.
Key Considerations:
- Deposit Beta Acceleration: Management expects deposit betas to approach 40% for the cycle, with interest-bearing betas potentially hitting 50%, driving further NIM pressure.
- Expense Flexibility: Cost levers include slowed hiring, delayed projects, and incentive compensation adjustments, with all leaders participating in efficiency initiatives.
- Non-Interest Income Volatility: Loan swap fees and service charges are expected to remain flat to Q1 run rates, with no material impact from the CFPB matter on fee outlook.
- Loan Growth Caution: Pipeline remains healthy, but guidance is intentionally conservative as uncertainty may slow project pull-through, especially in CRE.
- Regulatory and Legal Overhang: The CFPB overdraft investigation remains unresolved, with a $5 million legal reserve booked but no clarity on final outcome or timing.
Risks
The primary risks center on sustained funding cost inflation, further deposit remixing, and the potential for regulatory action stemming from the CFPB overdraft investigation. A mild recession, as anticipated by management, could pressure credit normalization and loan demand, while any acceleration in outflows or industry confidence shocks could force additional balance sheet actions or further margin sacrifice. Guidance assumes Fed rate stability post-May; any deviation could alter both deposit and loan repricing dynamics.
Forward Outlook
For Q2 and the remainder of 2023, AUB guided to:
- Loan growth of 4% to 6% for the full year
- Net interest margin between 3.35% and 3.45%
- Mid-single-digit net interest income growth
- Low single-digit operating expense growth, ensuring positive operating leverage
Management highlighted several factors that will shape results:
- Deposit betas expected to rise to 40% (total) and 50% (interest-bearing) by year-end
- Non-interest-bearing deposits projected to normalize toward 25% of total, down from 28% in Q1
Takeaways
Atlantic Union’s Q1 results reflect a sector-wide pivot from growth to risk management, with margin preservation, deposit stability, and expense discipline now at the forefront.
- Funding Cost Escalation: The rapid rise in deposit costs and remixing is the dominant earnings headwind, with NIM guidance reset lower and further pressure likely if competitive intensity persists.
- Expense Control as Offset: Management’s swift move to cap expense growth and preserve operating leverage is a critical defense, but leaves little room for discretionary investment if revenue weakens further.
- Monitor Regulatory and Macro Risks: Investors should watch for resolution of the CFPB investigation, signs of credit normalization, and any further shifts in deposit or loan demand as the economic cycle evolves.
Conclusion
AUB’s first quarter underscores the importance of deposit franchise quality and operational agility in a rapidly shifting banking landscape. Leadership’s pivot to margin defense and expense discipline positions the bank to weather near-term volatility, but the outlook remains cautious as macro, regulatory, and industry risks persist.
Industry Read-Through
AUB’s experience is emblematic of broader regional bank challenges in 2023, with rising deposit betas, margin compression, and funding mix shifts now industry-wide realities. The normalization of non-interest-bearing deposits and the need for rapid expense adaptation are likely to be recurring themes across peers, especially for banks with less granular or less relationship-driven deposit bases. The sector’s ability to defend margins, maintain credit discipline, and navigate regulatory scrutiny will be key differentiators for investors as the cycle matures. Expect continued focus on deposit stability, operating leverage, and capital preservation as core themes in upcoming bank earnings across the industry.