BFIN - NASDAQ

Good day and thank you for standing by. Welcome to the BankFinancial Corp Q3 2021 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker presentation, there will be a question-and-answer session. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today F. Morgan Gasior. Please go ahead.

Good morning, and welcome to the third quarter 2021 investor conference call. At this time, I'd like to have our forward-looking statement read.

The remarks made at this conference, may include forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934. We intend all forward-looking statements to be covered by the Safe Harbor provisions contained in the Private Securities Litigation Reform Act of 1995, and are including this statement for purposes of invoking these Safe Harbor provisions. Forward-looking statements involve significant risks and uncertainties, and are based on assumptions that may or may not occur. They are often identifiable by use of the words, believe, expect, intend, anticipate, estimate, project, plan or similar expression. Our ability to predict results, or the actual effect of our plans and strategies is inherently uncertain, and actual results may differ significantly from those predicted. For further details on the risks and uncertainties that could impact our financial condition and results of operation, please consult the forward-looking statements declarations and the risk factors we have included in our reports to the SEC. These risks and uncertainties should be considered in evaluating forward-looking statements. We do not undertake any obligation to update any forward-looking statement in the future. And now, I'll turn the call over to Chairman and CEO Mr. F. Morgan Gasior.

Thank you. As all filings are complete, we are ready for questions. Please proceed.

Your first question is from the line of Manuel Navas with D.A. Davidson.

Good morning.

Good morning.

I have two similar questions, I guess, to last quarter. One, expenses were a bit higher than we expected and maybe your quarterly expectations -- expected run rate, and it looks like you had some new hires. Can you talk about expenses going forward, and what are some of those new hires coming on? And if they're producers, what lines are they are you investing in?

Okay. Well, one, expenses will probably be in a range, somewhere between 98 on the low side and to on the high side, depending on seasonality. Compensation will be a little bit volatile. We'll make some improvements in certain types of compensation, but we'll spend money and other types of compensation, specifically commercial asset generation and commercial deposit generation and the commercial interest fee income. So, I think that's a range, but again, that's a range. It could go either way, a little bit further, for example, winter with occupancy and snow plowing and things of that sort of could spike it a little bit. And seasonally, we could see some drops in compensation. If, for example, we're not putting quite as much, it'll be an incentive compensation in the early part of the year or something like that. As far as investing in people, I would say the focus continues to be on like C&I originations. Specifically in the last nine months, we've added the government finance asset based lending and factoring capabilities, commercial finance, asset-based lending, and factoring facilities. The commercial finance people get on the scoreboard in the third quarter with their first factor in accounts receivable transaction, which we're glad to see. And we'll continue to look at equipment finance, and a little bit at the end multifamily as well. But the focus right now is on the C&I side, followed by equipment finance, followed by real estate, and that follows the basic business plan. It also shows you the results that we're seeing, where we had stronger C&I originations, stronger balance utilization, especially in the healthcare and the less or finance areas in the third quarter.

That's great. That's helpful. Shifting over to loan growth originations, we're up with a good amount. So, with payoffs. Can you talk about trends that drove both those increases?

Yeah. First on originations, we were pleased to see growth across the board at least in certain segments. So, for example, multifamily had their fifth consecutive growth, quarterly growth in originations. And we like to see that obviously it helps fight the payoffs. And it's important to note that we actually grew multifamily loans in the quarter, not by a lot, but we grew multifamily loans. And even though it's not a huge focus, we did grow the commercial real estate category very slightly. Again, based on stronger originations. Lessor finance was strong. We continue to book new commitments and we'd get draws on the new commitments. Healthcare, we thought healthcare would start some utilization. It actually was somewhat stronger than we thought it would be for third quarter. And we're also seeing some new customers coming in with some new transactions now here in the late third quarter, fourth quarter. But I still think healthcare is volatile, and it will contribute to payoff. So, they have money, they need it, and then they might get a slug of cash in and pay it down. The same is true for lessor finance. They'll -- we'll get good draw activity during the quarter, but then look at transactions ready to discount, and that'll happen right at the end of the quarter. And some of that activity is changing. For example, in third quarter, one of our lessor finance customers did about a $4 million paydown, that paydown usually happens in December. But he got his portfolio organized and he got the deal done in third quarter instead of fourth quarter. So, there are some timing issues out there as well. I would say going forward, we don't really see a lot of change in the market as far as payoffs and multifamily. In fact, we just had a borrower sell a building, and for approximately twice what he paid for it about 24 months ago and pay us off. And as long as this rate environment remains, and especially those people who may be motivated by changes in capital gains rates, and again, just seeing the prices they're being offered for buildings that they never truly expected to see, we would expect payoffs to continue more or less at these levels, could change, but for now we're not -- we wouldn't necessarily predict a big downshift in payoffs on multifamily. In equipment finance, a little more unusual activity. One of our independent lessors was sold to a bank, and because the bank has a considerable excess liquidity, the bank elected to payoff all the discounted leases and make a prepayment that doesn't happen every day. But again, it shows you kind of some of the unusual things that are going on in the market right now. So, I do think that we'll see some continued payoff activity at least for the fourth quarter. We'll probably see about $25 million more than we would have otherwise. And we'll also see some amortization activity. So, for example, in the government finance -- government equipment finance portfolio, the -- year-end for -- the calendar year--end for the federal government is typically third quarter, September 30th, a lot of activity historically gotten booked in third quarter and some in fourth quarter. So naturally you see the payments coming in, in those periods as well. So, for example, in government equipment finance schedule payments were approximately $18 million more than they were in the third -- in the second quarter. So that's why for us the origination's volumes are so critical and that's why we're putting the money into people. So that one, we've got the flow coming in to grow the portfolio and overcome the payoffs. And as time goes on as rates moderate and the payoff environment slows down a little bit, then we'll really see some stronger growth than the average there.

That's great detail. If we kind of wrap it up, is there any changes to your growth outlook as you go towards the end of the year or into 2022?

I'm going to rest on the numbers we've worked with consistently. Our goal every quarter is to do -- is as close to $40 million of growth at an average yield of 4%. So, in the third quarter, we had less growth because -- primarily because of scheduled payments and some paydowns that we weren't expecting. But we did do a yield of 433, all the in on originations and line draws. So, the mix of originations in the third quarter was favorable. The overall level of originations in the third quarter was favorable to payoffs were the unfavorable factor. And we just can't control payoffs. So, our goal is to continue to grow originations, continue to diversify the mix if for -- but the yield could change. For example, the weak spot in the third quarter was corporate equipment finance. Part of that might be supply chain. The equipment's not getting delivered. And part of it might be excess liquidity and corporate portfolios, especially in investment grade. And part of it was yields under 2% and it's below our floor for corporate equipment finance. But with the moves in rates during the third quarter, we think there might be an opportunity to get back into corporate. We're going to try and put another focus, but those yields are probably in the mid-twos. So, there you could see a change in the mix where it's better quality, lower yield, and therefore you might see $45 million for example, but the yield would be under 4%. But our focus is on originations. It's the thing we can control the most, continue to diversify the C&I portfolio and the equipment finance portfolio. So, for example, we were pleased in third quarter that middle market and small ticket equipment finance were 30% of total originations. They both have good pipelines going into fourth quarter. Those average yields are quite strong and they help achieve our goals for originations and may help achieve our goals for yields. And especially if in 2022, you see a rising rate environment, but also some potential flattening. The moves we're making on C&I and diversity of credit risks are going to be helpful.

That's great. Thank you. I can step back and have other questions.

Thank you.

Your next question is from the line of Brian Morgan with Janney Montgomery.

Hey, good morning.

Good morning, sir.

Hey, I wanted to find out -- Morgan, maybe just going back to the hires for a minute. Your -- you talked last quarter about kind of what were round out your expectations. I guess how you -- I guess, have you made progress on that? Or you can say you kind of still -- are you largely complete with what your hiring expectations are? Are there still -- I know you'll always be opportunistic, but as far as what your capabilities are you kind of full today, or is there other places you're still adding?

I'd say we're pretty close to full. We're making some moves to reposition resources right now for better results. But if I go around the horn, equipment finance is in pretty good shape. Again, potentially some movement of resources, but the dollars involved are pretty close to where we want to be. Government finance and commercial finance are both where they should be both in terms of the originations and in terms of the controls for underwriting. Healthcare is stable for now. And real estate, again, we're moving some resources around. We probably could benefit by from one or two producers in selective markets, but it won't be a tremendous amount of money. So, if you add it all up, I'd say we're somewhere between 90% to 95% complete on the build-out. The focus is shifting to outreach and marketing, and of course, making sure the resources we've invested in are producing.

Gotcha. Okay. That's helpful. And then just on the -- I guess on the growth front, your bogey, your target, as far as kind of what you're looking at, I mean, can you just briefly, or just kind of give some color on, what components -- what's driving the $40 million as you think about a high level by segment, where's the growth coming from already expect the greatest growth from?

Yeah. We'll see it in the C&I portfolio first, the lessor finance side and then commercial finance government, and healthcare. Then equipment finance, some of the equipment finance portfolio obviously has scheduled prepayments and that's some of the volatility you see in payoffs, so as that portfolio gets bigger, it also gets a little harder to grow. But lessor finance along with the rest of the C&I portfolio is the area you should see the most. Again, payoffs will be part of the story. Equipment finance next, and then multifamily after that. You're just not seeing the same volume of transactions in multifamily. We still see purchases, but the market is pretty rich right now. And the market is also starting to get priced to the point where it's harder to make the deals work from an underwriting perspective. We think perhaps the next six months or so, there's still an open window for refinances. Perhaps rates going up have convinced investors that maybe the time is now, that to lock in a refinance rate. And if they're not planning on selling, and move forward. But historically the message on refinances have been well. I think I'll wait because rates could go lower. So, perhaps that window is closing for them, and we still have another six to nine months for us, but C&I equipment finance, healthcare in the -- C&I, equipment finance and multifamily in that order.

Gotcha. Okay. And then, you talked a lot about the origination side. I mean, the originations were great this quarter. I guess when you look at what level -- giving you can't control the payoffs, I mean, what's a kind of -- what are you targeting as far as originations go or kind of what's sustainable in your mind, given kind of current conditions and the people you've added in staff, or at least expectations on kind of how we monitor that line.

I think, it's a little too early for me to put that out there. I think that'll be a good question for our next call. Right now, let me talk about fourth quarter. We have good lessor finance pipelines going into a fourth quarter, probably among the strongest we've seen in some time and given the growth in that portfolio, that's quite positive. We have very good multifamily originations going into the fourth quarter and we had a good October for originations as well. We're seeing actually a few commercial real estate opportunities in the Chicago market that seemed to be workable. So, I think that pipeline is also favorable. Equipment finance, the government portfolio, we'll do about what we expected it to do. It's hard to look ahead much more than four months on that as you get through the bidding process, but we've also been out talking to some additional lessors. Probably too early to put a run rate on that right now, but we would certainly hope to grow it from where we're at. So, I think, we look -- we like fourth quarter origination so far. Corporate, I'm still concerned about, corporate equipment finance. Middle market, I think we'll be fine, small ticket will continue to improve. Government will be good, maybe not outstanding, but good. If we get one more transaction booked for the quarter, then I'd probably put it in a really good category. But, right now, I'd say probably better to get a handle -- after we get our marketing out the door on government finance and commercial finance for next year to ask that next year. So, bottom line, fourth quarter originations look good. I'd like to reserve judgment on 2022 until we actually pushed more of the marketing out the door and see what the response rates look like.

Gotcha. That's helpful. Understood. And in the -- just the net growth, I mean, I guess when we look -- it sounded like payoffs could be a little bit a touch higher. I mean, it was just one category and I didn't hear you clearly, but in fourth quarter, but net growth in fourth quarter and then just kind of big picture, how you're thinking about that number next year, I guess, to have you come -- I guess, are you able to give some color on next year on the net growth and -- or maybe just more fourth quarter today?

I guess I'm going to go with -- for fourth quarter, we have, as I said earlier, the paydowns in the equipment finance portfolio, and then the larger multifamily paydowns. And so, we're already plus 25 in paydowns for the fourth quarter. But I do believe our originations for the fourth quarter could overcome that, which means our originations are $25 million stronger than they were in third quarter. I don't really want to make predictions about payoffs next year. We're getting calls on -- again, we're getting calls from borrowers who are apologetic and saying, look, I never thought I'd get these prices. I'm selling the building. I'll pay you your prepayment penalty, but I have to take this deal. So, I'm going to stick with what we said before. And the goal is to grow $40 million net per quarter at 4%. Payoffs will be the wild card. And to the earlier question, originations probably have to strengthen further from what they are to achieve that. That's why we put the resources in place to do it. What that number looks like, I'd prefer to reserve for next year. But the $25 million in additional payoffs certainly didn't help in the fourth quarter. I think we can overcome it. If we actually grew $40 million to $50 million in the fourth quarter, that would be for us, I think a very, very good result, but that also assumes we're not going to see any more big paydowns this quarter. And I can't tell you that's a valid assumption right now.

Yeah. Gotcha. Okay. Helpful. And how about just as far the net interest margin or net interest dollars, I guess, how you're thinking about that -- the margin was relatively stable this quarter and certainly the mix is -- and I guess your -- it's all lot driven by the mix, but just, how are you thinking about the margin percentage of the margin dollars here in the next quarter or two?

Well, I think for starters, we were glad to see interest income continue to rise and net interest income before provision did well. And as you point out, we picked up -- we were stable in the margin and picked up a point on the spread. The originations yields picked up quite a bit and the payoff deals fell a little bit. So, I'm hopeful that that has stabilized and actually we can pick up some margin going forward if the mix picks up. And even for us given how much cash was sitting out there, even some of the lower yielding assets in the 2% range, obviously increase the interest income and actually contribute to marginal a bit. So, I think we're feeling pretty good as long as the originations continue, and increasing the absolute level of originations, interest income goes up. We're not really expecting a lot of changes in interest expense right now. Therefore, margin should go up a little bit over time.

Gotcha. Is there any expectation with -- given where the yield curve is at to deploy any of that liquidity into the securities at this point, or still kind of maintain it where it's going to go into loans as you see the originations continue to trend higher?

Yeah. That conversation has started. It's a good question. I think you could see us putting a little bit more into securities in the shorter duration world. Obviously, there's a lot of moving parts right now with the Federal Reserve, both in terms of quote unquote taper and potentially bringing fed funds increases into focus earlier than people were thinking. So, in the securities area, we would still stay relatively short duration, but I do think there's some move -- there's some possibility of picking up some yield, and just holding it for a relatively short-term maturity and leaving it at that. Nothing fancy, nothing complicated, but there might be some opportunity to pick up a few bucks and put some cash to work and then have those maturities arrive just about when we've worked off all the other cash. And then we can reposition it even higher. So, standard protocol in a rising rate environment. And I think the yield curve might've gotten to the point where a baseline investment might make sense.

Gotcha. Okay. That makes sense. And just last one or two for me. Just on the reserve levels this quarter, I guess you reserved for the growth, but they still had some recapture on other areas, just how should we think about the reserve in general, given growth expectations, particularly for the more commercial oriented businesses here?

Well, we were glad to put reserves away for growth and C&I, because that's what happened. And we would like to do more of that. The recovery was due to getting cash from loans that had either been -- that have been charged off or reserved and we collected it. So, we're glad about that too. I would say going forward about reserves, there is still some remaining excess provision related to COVID. So far, the asset quality is as you've seen remains very strong. The reserve coverage ratio is very strong. So, I expect that there will be potentially some recapture of the provisional reserves soon probably fourth quarter and possibly in the next year, we'll see. But again, we're hoping to consume as much of that release in loan growth as we possibly can, whether we would have a net recovery in a given period fourth quarter, I would say that we'd have to have quite a bit of loan growth to overcome the reserve from the provisional reserves, but then after that, that reserve recovery should mellow out and we should just be provisioning after that based on growth.

Okay. Gotcha. So, growth -- the provision line should be positive next year. Once you burned through a couple -- once you've burned through a little bit of what you've got here the next couple of quarters?

That would be your objective. Yeah.

Okay. And then just lastly, on the capital front, just -- obviously -- the share purchases were strong this quarter, just kind of how are you thinking about capital at this point and either the best deployment of it, there's still buyback potential or the dividend or disseminate just how should we think about that?

I would say capital's going to remain relatively stable. We're nearing limits -- regulatory limits on buyback from a timing perspective. So, the volumes will not be as strong as they were before. We've kind of used all of our -- most of our excess buyback capability from a regulatory perspective. And that'll continue through first quarter of next year. We're not really looking at M&A right now. Our focus remains on organic growth. I would say if we do M&A, it's going to be in the asset origination focused area. For example, the payoff we got someone unexpectedly a $10 million payoff in equipment finance, corporate equipment finance was due to a bank buying an independent equipment lessor, they are paying off the discount of lease exposure and they want the asset originations. So, there's an example of something we could do. And we have another lessor we know of that maybe exploring a sale. So that activities out there. But I -- right now in the relatively short-term, I would not expect any material M&A activity on our side. We prefer to focus the resources we have now on organic growth. We really -- obviously don't need any additional deposits. We'd like to focus resources on organic business deposit growth, and we're seeing some early signs that that's working in our treasury services area. And we'd like to focus resources on growing our trust income, which is also starting to make some progress. So, I would expect capital to remain stable over the next couple of quarters. I would not expect any big changes that we know of right now.

Gotcha. Okay. I will step back. Thanks for taking the questions, Morgan.

Appreciate your time. Thank you.

There are no further questions at this time. I will now turn the call back over to Morgan Gasior.

Thank you. One question that wasn't asked is about what's going on with branch facilities, and a couple of things about branch facilities. One, we are seeing continued customer interest in the branches. But it's been asked before what we're thinking about in terms of branches. We are nearing the end of that review, and I would expect in the next couple of quarters, we'll have some announcements about where we're going to head with branch offices. We're especially focused on looking at how business customers are changing, how they use branch facilities, how to look at technology in the -- in working with those customers. And we're also looking at the fact that we are increasingly growing business deposits within the C&I portfolio, and those customers are not dependent on brand services. So, the diversity of the deposit base continues, and that points us more towards electronic services, telecommunication services, and less bricks-and-mortar. So, all of those trends and factors continue to be evaluated. But I would imagine over the next three to six months, we'll have some announcements about how we're going to work in this brave new world of both customers working from home and a broader diversification of the geographic base of our deposits. With no further questions, we thank you for your interest in BankFinancial. We wish everyone a happy holiday season upcoming, and we will talk to you in 2022.