ConnectOne [CNOB] Conference call transcript for 2023 q1
2023-04-29 06:40:24
Fiscal: 2023 q1
Operator: Good morning and welcome to the ConnectOne Bancorp, Inc First Quarter 2023 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation there will be an opportunity to ask question. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Siya Vansia, Chief Brand and Innovation Officer. Please go ahead.
Siya Vansia: Good morning and welcome to today's conference call to review ConnectOne's results for the First Quarter 2023 and to update you on recent developments. On today's conference call, we bring Sorrentino, Chairman and Chief Executive Officer and Bill Burns, Senior Executive Vice President and Chief Financial Officer. Also with us is Elizabeth Magennis, President of ConnectOne Bank and Steve Primiano, EVP and Treasurer. I'd also like to caution you that we may make forward-looking statements during today's conference call that are subject to risks and uncertainties. Factors that may cause actual results to differ materially from expectations are detailed in our SEC filings. The forward-looking statements included in this conference call are only made as of the date of this call and the company is not obligated to publicly update or revise them. In addition, certain terms used in this call are non-GAAP financial measures, reconciliations of which are provided in the company's earnings release and accompanying tables or schedules, which have been filed today on Form 8-K with the SEC and may also be accessed through the company's website. I will now turn the call over to Frank Sorrentino. Frank. Please go ahead.
Frank Sorrentino: Thank you, Siya, and good morning everyone. We appreciate you joining our earnings call today. Let's get it started and kick it off with what you've seen in our earnings release this morning. We're in a strong and solid position today, reflecting continued success in growing our deposits and enhancing our liquidity base with over 250% coverage of uninsured uncollateralized deposits. I began last earnings call by reiterating ConnectOne's commitment to serving our clients despite the cyclical ups and downs of the economy and never before has our focus on client relationship banking has been so important while the industry was surprised by the specific events of mid-March, we at ConnectOne anticipated the repercussions of quantitative tightening and our team began to take intentional actions as early as the fourth quarter of last year. Those efforts have positioned us well with a relationship driven deposit base, increased total available liquidity, a diversified loan portfolio of quality assets and sponsors, solid credit metrics and a strong overall balance sheet and capital position. Looking back a few weeks to March, I'm proud of the way our team responded with a sense of urgency, proactively reaching out to our clients to provide them with peace of mind solutions while diligently enhancing our liquidity position and securing our deposit base even further. In fact, for the 5th quarter in a row, we've now realized net deposits inflows. That success is a credit to a few things. First, a relentless continuation of our ongoing efforts towards onboarding new client relationships and expanding into deposit rich verticals while many others have allowed their deposits to leave their balance sheets. Second, part of our focus of our business development team continues in non-CRE tied verticals in order to further diversify our loan portfolio and provide additional sources of deposit growth. In this regard, our C&I division has grown at a consistent pace over the past decade and our expertise has continued to evolve over that time. Notably in the private school, health care and franchise segments providing deeper and attractive market opportunities for our team. Third, our investments in technology such as our partnership with MANTL play a key role in accelerating these efforts. We have now deployed the first phase of this omnichannel deposit origination platform, which has already led to seamlessly onboarding of new client relationships. Now for some color on the significant improvement in our uninsured deposit percentage. An operating advantage for ConnectOne was our existing knowledge and use of the IntraFi reciprocal deposit product, facilitating immediate availability to our existing client base and new clients. ConnectOne is one of the longest and most established banks in the IntraFi network, having utilized the product for over a decade, predominantly to meet the needs of some of our more sophisticated client fiduciaries such as in the private school business segment. Through the efforts of our team, our uninsured and uncollateralized deposits improved to just 20% of total deposits. Shifting to our margin. On our last earnings call, we laid out our strategic rationale for being more aggressive towards maintaining our client relationships despite deposit rate competition resulting in increasing our unique client count and total deposits. That said, we experienced and expected what I believe is temporary net interest margin compression during the quarter. That's the near-term cost of successfully achieving our goal of preserving and building our banking relationships. That should not obscure the fact that the underlying fundamentals and returns of our business remains solid. Bill will talk a little bit more about the net interest margin and its impact on our reported results for the quarter in the outlook in detail in a little bit. In regard to our commercial real estate office portfolio, first off, office represents today a very small amount of our portfolio. Our total office exposure is approximately 5% of total loans, but a majority of that is represented by specialty services, such as medical or other service-oriented businesses where multi-use buildings where tenancy is very high and leases are very secure. New York City is even lower at less than 1% of total loans. And in addition, loans in this segment were underwritten with LTVs that averaged below 50% and are the strong borrowers with 80% of them personally guaranteed. A recent review of this portfolio indicates vacancy rates are near zero and the stressed renewal rollover risk is low. Turning to our multifamily portfolio, as I mentioned before, our focus is predominantly on purchase money loans to large generational owners and skilled operators based in more suburban and commuter-oriented areas. Additionally, our multifamily portfolio in Manhattan is less than 2.5% of total loans and 5.8% in the other four boroughs. Back to the focus on purchase money mortgages, this ensures significant equity in these projects and underwriting that includes stress the SCRs and minimum cap rates with tremendous upside from better management. We're always happy to see our clients create significant value and refinance this out to one of the life companies or Freddie or Fannie or some other institution and, as a result of these prudent lending standards, including minimum realistic cap rates, when we stress the portfolio for renewal pricing, the potential for significant increase in impaired loans was very limited. Our stress testing considered increases in debt servicing, changes in property NOI and amortization of principal since origination. Multifamily loans repricing or renewing in 2023 total only 6% of the multifamily portfolio, with only another 15% through the end of 2025. Overall, ConnectOne's credit performance remained solid during the first quarter. Delinquencies and non-accruals remained low and, as they are identified, we are proactively managing through those credits. So, looking ahead, we will maintain reserve levels commensurate with our growth and aligned with the changing macroeconomic forecast. With that, we expect our loan portfolio to remain essentially flat this year with originations mostly offset by amortization, maturities, and pay-downs. In addition, we could see a slight change in composition away from some CRE, including multifamily and towards C&I and construction where we remain very opportunistic. Given the strength of our earnings and capital position, we have a great deal of financial flexibility and confidence in our trajectory forward. To that end, earlier today, we announced a 9.7% increase to our quarterly dividend, $0.17 per share, which is consistent with dividend increases over the past few years. Our payout ratio remains at a conservative level below 30%. In summary, we remain focused on serving our clients, supporting our staff, creating long-term value to our shareholders and improving and building upon a distinctive operating platform. Further, while maintaining our long-standing financial discipline, we're well positioned to take advantage of possibly once-in-a-generation market opportunities that could produce strong returns for our shareholders and be very beneficial to our franchise. With all that, I'll now turn it over to Bill.
Bill Burns: Thank you, Frank. Good morning, everyone. I'd like to start out with some color around our enhance and fortify liquidity position, which provides ConnectOne with readily accessible liquidity that is now actually in excess of 250% of our total uninsured and uncollateralized deposits and that position resulted from efforts on both sides of this equation. On the deposit side, by reaching out proactively to our clients, we're able to both restructure accounts and also facilitate the transfer of deposits to the IntraFi reciprocal network. And combined, we were able to reduce our uninsured deposits by approximately $1 billion and now uninsured together with uncollateralized is just 20% of total deposits. On liquidity side, we pledged additional loans, thus adding to our already existing capacity at the Federal Home Loan Bank. Those actions resulted in an additional $2 billion in available liquidity. Just to give you a rough breakdown of our current borrowing base and overall liquidity. We now have an approximately $3 billion secured line in Federal Home Loan Bank. Then, we have another $1 billion secured by loans and securities, the Fed discount window, including the new BTF and we then have an additional $1 billion in on-balance sheet cash, unpledged securities at market value in various unsecured lines of credit. So, we have a strong position today, which is more than adequate, but still we could increase the space by another $1 billion to $2 billion if ever needed. Utilization of the current $5 billion base today is solely from the Federal Home Loan Bank where we have drawn down about $1 billion. The other lines have been successfully tested but are untapped leaving us with available liquidity of roughly $4 billion. Now, Frank mentioned earlier our success of net deposit inflows, wanted to give you some color on that. The total deposit increase point to point from year end was about $400 million and of that approximately $200 million were core client net inflows and that occurred over the course of the first quarter. We did see approximately $100 million of 10.31 escrow deposit balances leave the bank during mid-March, but other than this particular decrease there were no significant outflows, and we added about $300 million of brokered deposits with a weighted average cost of a little over 5%. The lag of those maturities across the year for a weighted average duration of just over six months, so these will run off fairly quickly. Let's now turn to the margin. And there are several factors that I believe will continue to compress margins across the industry. I'm confident you know what they are. First, a further reduction of the money supply, which can intensify competition among banks even further than we have today. Next, we've got continued high short-term rates, which provides a hard corpass-up incentive for noninterest-bearing deposit to transfer the balance is interest-bearing accounts. And then finally, and this is an increasingly important factor, a continued inverted yield curve environment would negatively impact net interest margins more than most realize. Now, in terms of our net interest margin, it did compress more than we previously expected due to the intense competition. Our cycle to date is now 40%, pretty high versus the industry averages and that was caused in part by the fact that our core deposit base is weighted 2:1 sophisticated commercial accounts. And in addition, as Frank mentioned earlier, not just yesterday, but towards the end of last year, we made a strategic decision to be more aggressive with deposit rates in order to both retain our existing clients and grow our core commercial client base. That strategy is working well in terms of deposit growth for liquidity but has put added pressure on net interest margin. In addition, like most of the industry but not worse than most, we have experienced an accelerated decline in non-interest-bearing balances. Looking forward, we believe we are closer to a terminal beta than most. Although deposit costs will likely increase further to some degree, primarily due to CD rollovers, we have no current plans to raise rates from where we stand today. So margin compression on this point, if any, is likely to be slow. And our forecast is that when short-term rates subside and the yield curve takes a more traditional shape on NIM and profitability will return to historical levels, say, in the 330 to 350 range. And this is consistent with what our models say about our current liability-sensitive position. Now notwithstanding this extraordinarily challenging interest rate environment that's created a near-term pullback in our net interest margin. Our performance metrics for the quarter still surpassed 1% of return on assets and approximately 1.5% PPNR ratio and an efficiency ratio below 50%. And even with dividends and share repurchases, my forecast calls for maintaining or improving capital ratios and increasing tangible book value per share. For the quarter, our sequential loan growth was below 1% while deposits grew by more than 5%, resulting in an improvement in the loan to deposit ratio to less than 105. Let me turn to noninterest income for the quarter, it was down from recent levels. There were a couple of non-recurring items in there and some SBA sales had been delayed. Those sales are scheduled to close in the second quarter. I'm hopeful in the second quarter, we will close on about 500,000 in gains in SBAs. By the fourth quarter, I expect we should get close to a $4 million run rate, with noninterest income. Going to expenses, as I anticipated, expenses increased sequentially, largely resulting from normal salary increases in this inflationary environment as well as an increase in staff. Increased costs related to technology also were a factor. For the rest of the year given the anticipated slowdown in the economy, I'm going to guide you to flat expense growth. Let me move on to the ACL and credit. Our CECL modeling resulted in a relatively small provision in the quarter and that reflects no material changes to Moody's economic forecast, a slight increase in our qualitative factors but it was flat loan growth, and no material changes to specific reserves. We did have about $4 million of charge-offs in the quarter that had no impact on provision expense that they had already been reserved for. Little more than half of that was related to the resolution of a handful taxi medallion loans. We sold them for a little bit in excess of the carrying value. The other was a one-off commercial real estate loan that was originated by an acquired bank that has also been reserved for previously and therefore had no impact on provisioning for this quarter. In terms of nonperforming assets, we had a slight uptick in non-accrual loans, it relates to one multifamily property. It too was part of an acquisition, that loan is 90 days past due, but the current loan to value is 85% and that's expected to be worked out successfully. I'd also like to take a moment now to remind everyone that we have only limited unrealized losses in our available for sale securities portfolio and our tangible common equity and tangible book value per share were largely unaffected by higher rates. As such, it is unlikely, unless the economics are overwhelmingly compelling, that we would undertake a restructuring transaction that would dilute tangible book value. By the way, tangible book value per share at quarter end was $22.07 up from year-end and this is the 12th consecutive quarter, it has increased. And so before turning the call back over to Frank. I want to close with these thoughts. I believe current ConnectOne Bank Bancorp shareholders will be significantly rewarded in the year ahead for the following reasons. First, our liquidity position is extraordinary with more than 2.5 times coverage ratio. Our credit exposures to office in New York City multifamily segments are small. We stressed our portfolio for renewal rollover risk and any risks we have is very limited. Our margin is now depressed, but in our view, will return to historical levels and our performance metrics will get back to best-in-class. Capital remains sound, unaffected by the AOCI issue and the current earnings rate is more than adequate to support our plans. And finally, we are trading at just 70% of tangible book value. A return on our stock price to tangible book value would imply a greater than 40% shareholder return and, at these levels, we will be back in the market repurchasing stock. And now, I'll turn it back over to Frank.
Frank Sorrentino: Thanks, Bill. In closing, although the industry remains burdened by near-term headwinds, ConnectOne continues to perform well. Our deep experienced team continues to successfully manage through these turbulent times much as they have in many prior cycles. The actions we've taken to focus on deposits and enhance our balance sheet and capital base, positions ConnectOne for the challenges ahead and the flexibility to continue to invest in our valuable franchise. firmly believe that our conservative client-centric model, diversified balance sheet, solid liquidity and our track record of profitability positions us to successfully navigate any near-term challenges. Also allows ConnectOne to fully capitalize on both the near-term and long-term growth opportunities that will arise. We're excited about our future. And as Bill just mentioned, by focusing on our strategic priorities, we will drive shareholder value. As we move through the rest of 2023, the temporary decline in profitability is not impacting our ability to fire on all cylinders and take advantage of the market.
Operator: We will now begin the question-and-answer session [Operator Instructions]. Our first question will come from Daniel Tamayo of Raymond James. Please go ahead.
Operator: The next question comes from Matthew Breese of Stephens. Please go ahead.
Operator: [Operator Instructions] And the next question comes from Frank Schiraldi of Piper Sandler. Please go ahead.
Operator: The next question is a follow-up from Matthew Breese of Stephens. Please go ahead.
Operator: This concludes our question-and-answer session. I would like to turn the conference back over to management for any closing remarks.
A - Frank Sorrentino: Again, I want to thank everyone for joining us here for our first-quarter conference call. Look forward to seeing you all at our next meeting in July. Enjoy and thank you.
Operator: The conference has now concluded. Thank you for attending today's presentation and you may now disconnect.
