TBBK - NASDAQ

Good morning ladies and gentlemen, and welcome to The Bancorp's First Quarter 2023 Earnings Conference Call. At this time, all lines are in a listen-only mode. Following the presentation we will conduct a question-and-answer session. [Operator Instructions] This call is being recorded on Friday, April 28, 2023. I would now like to turn the conference over to Andres Viroslav. Please go ahead, sir.

Thank you, operator. Good morning, and thank you for joining us today for The Bancorp's first quarter 2023 financial results conference call. On the call with me today are Damian Kozlowski, Chief Executive Officer; and Paul Frenkiel, our Chief Financial Officer. This morning's call is being webcast on our website at www.thebancorp.com. There will be a replay of the call available via webcast on our website beginning at approximately 12:00 P.M. Eastern Time today. The dial-in for the replay is 1-877-674-7070 with a confirmation code of 423750. Before I turn the call over to Damian, I would like to remind everyone that when used in this conference call, the words believes, anticipates, expects and similar expressions are intended to identify forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements are subject to risks and uncertainties which could cause actual results, performance or achievements to differ materially from those anticipated or suggested by such statements. For further discussion of these risks and uncertainties, please see The Bancorp's filings with the SEC. Listeners are cautioned not to place undue reliance on these forward-looking statements which speak only as of the date hereof. The Bancorp undertakes no obligation to publicly release the results of any revisions to forward-looking statements which may be made to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. Now, I'd like to turn the call over to The Bancorp's Chief Executive Officer, Damian Kozlowski. Damian?

Thank you, Andres. The Bancorp earned $0.88 a share and 47% revenue growth and 25% expense growth. Net income grew 70% year-over-year. ROE for the first quarter was 28% versus 18% in the first quarter of 2022. ROA for the first quarter was 2.6 versus 1.6 in the first quarter of 2022. GDV growth was 19% year-over-year. Fintech Solutions fee growth was 24% year-over-year. NIM expanded quarter-over-quarter from 421 to 467. Efficiency ratio remained at 42% quarter-over-quarter and loan growth excluding loans held for sale was 29% year-over-year, with a slight 2% decrease quarter-over-quarter reflecting the steep increase in client borrowing costs. The recent dislocation in the banking market did not materially impact our company. With granular deposits spread across more than 130 million insured small accounts through our Fintech ecosystem, a lower risk variable rate in short duration credit book, and significant liquidity in borrowing capacity TBBK was well positioned to manage the increased volatility in the beginning of 2023. Over the last three years plus, we have purposely and methodically built a platform that would benefit from rising rates and rigorously protect our company from an interest rate shock or systemic event risk created from a banking system dislocation. We have included two new schedules in our earnings release. The first is more detail on our deposit base that has an overwhelming majority of insured and low balance stored value card accounts and the second is a review of our significant borrowing capacity. The first quarter significantly surpassed our expectations in ROE, ROA, GDV growth, Fintech Solutions fee growth, NIM efficiency ratio, net income growth and EPS. Indications are that continued financial momentum will result in further improved metrics in 2023, moreover, other potentially positive tailwinds that might additionally improve performance in 2023. Number one, above trend payments GDV growth of more than 15%; two, Fed funds rate above 5%; three, increased NIM performance due to slower loan growth versus higher deposit growth, and four purchase of agency, treasury and other securities which have not been included in our forecast. We have not purchased significant long-term fixed rate security since 2018. Due to these factors in our first quarter performance, we are raising guidance from $3.20 a share to $3.60 a share without including the impact of share buybacks of $25 million per quarter for 2023. I'll now turn the call over to Paul Frenkiel, our CFO for more on the first quarter.

Thank you, Damian. Before reviewing quarterly results, I would like to comment on the low risk liquidity profile of Bancorp. As Damien noted, the bank's deposit base is largely comprised of small balance accounts, notwithstanding the corresponding unrealistic risk that our small depositors withdraw their funds in a short window, Bancorp exceeds potential liquidity needs by maintaining lines of credit with the Federal Home Loan Bank and the Federal Reserve Bank of approximately $3.3 billion. Bancorp's line with the Federal Home Loan Bank is collateralized by its apartment [ph] building loans as residential collateral is mandated by that agency's charter. The Federal Reserve Bank also has collateral requirements, which Bancorp must satisfy with its line of credit with them. Additionally, Bancorp has access to significant other institutional liquidity, which is periodically tested. Bancorp has also maintained a low interest rate risk profile and emphasized variable rate assets with policy mandated risk limits. As a result of its variable rate loans and securities Bancorp benefited from the higher rates this quarter and that resulted in the increases in return on assets and equity to 2.6% and 28%. These increases were significantly driven by 62% increase in net interest income. In addition to the rate sensitivity of the majority of our lending lines of business management has structured the balance sheet to benefit from a more normalized and higher interest rate environment. Accordingly, over a period of years, it has largely allowed its fixed rate investment portfolio to pay down while limited purchases were focused on variable rate instruments. Additionally, the rates on the majority of loans adjust more fully than deposits to Federal Reserve rate changes. Accordingly, in Q1 2023, the yield on interest earning assets had increased to 6.6% while the cost of deposits had increased to 2.1%. Those factors were also reflected in the 4.7% NIM in Q1 2023, which represented another increase over prior periods. The provision for credit losses was $1.9 million in Q4 2023 compared to $1.5 million in Q1 2022. Of the $1.9 million, approximately $1.3 million resulted from the impact of historical net charge-offs applied to the estimated remaining lies of outstanding loans. The balance of the $1.9 million resulted primarily from first quarter charge offs. Additionally, $1 million charge against a movie theater property and other real estate owned was recognized in other non-interest expense. Prepaid debit and other payment related accounts are our largest funding source and the primary driver of non-interest income. Total fees and other payments income of $25 million in Q1 2023 increased 24% compared to Q1 2022 and 14% after eliminating $1.4 million termination fee and $600,000 of income related to fourth quarter 2022. Non-interest expense for Q1 2023 was $48 million, which was 25% higher than Q1 2022. Majority of the increase resulted from salary expense, which also increased 25% and which reflected higher numbers of staff and financial crimes, compliance and information technology. Staffing increases reflected increases in deposit transaction volume and the development of new products. The increase also reflected higher stock op, stock compensation expense as a result of a focus on stock ownership. Book value per share at quarter end increased 15% to $13.11 compared to $11.41 a year earlier, reflecting retained earnings partially offset by fair value adjustments to the investment portfolio resulting from the higher rate environment. Quarterly share repurchases should continue to reduce shares outstanding. I will now turn the call back to Damien.

Thank you, Paul. Operator, could you open the line for questions?

Hey, good morning everybody.

Good morning, David.

Maybe let's start with GDV, it's great to see the growth in the quarter and I know it can be really hard to dissect. But could you just maybe talk about some of the drivers of that and what you're seeing? You talked in the deck about growth at both existing clients and addition to new clients last year that are scaling up. Just curious maybe the attribution between the two and just any thoughts on GDV growth going forward as you look into your crystal ball?

It's been very broad based across not only from neobanks but in healthcare, government and new products in the corporate payment space. So it was very broad -- it was surprisingly robust, above trend when you get past that 15% as I mentioned, but it's not concentrated in one area. So we're very pleased with the broad based nature of it, but also the new product sets and things like corporate payments have surpassed our expectations.

That's great. And then maybe just kind of following on, just given the volatility in the market, I would probably think this pushes more clients to you just given the scale and stability of your platform. I know you've always got a lot of clients that are looking to join, but have you seen any shift in the kind of the pulse of the market or change in the increases in the pipeline? And maybe just how do you think about the pace of new client adds this year?

So we've had a very robust and steady pipeline for the last three years and we haven't seen any real change. As we mentioned before, there's many companies that come to us that we don't implement and they go to one of our competitors because they're not of the size of the maturity level to really take advantage of our ecosystem and so we don't add those partners to it until they mature somewhere else. But there's -- it's been very stable, it's been very broad based. It's development of new areas and new product sets within our existing clients. We think the double digit GDV growth is well supported and we have pretty good visibility for the next 18 to 24 months. Lot of stability. And we don't, as you know, our partners, once they're here they to stop using us takes at least a year, but multiple years if they're going to leave. So we have a lot of visibility and stability in the portfolio and in the pipeline.

Okay. And then maybe just touching on the loan portfolio for a second, and specifically, within the bridge, obvious the bridge, the real estate bridge, obviously there's a hyper focus on CRE and I appreciate the color in the slide deck on the segment, but I'm just curious, what are you seeing in this segment? Obviously you've got strong underwriting standards, but as you look broadly are, just curious your thoughts on that segment and then maybe any color on kind of what drove the S-block and I-block clients in the quarter? Was that just market volatility or any other trends you're seeing there?

Yes, well, the CRE is extremely stable. Now that the whole market has slowed down because there's been a huge repricing obviously because of the rise of interest rates. Our underwriting standards have not changed. We have interest rate caps on all the loans and floors and many times reserves. So we haven't had any dislocation whatsoever in that portfolio. And we've had a lot of the wind down of the old portfolio and people have been finding financing, take out financing. So we haven't had any, I can't really respond other than it slowed down a bit. I think that will pick up once you have, you stop having the steep curve in interest rates. But we have nothing to report really. On the S-block side, that's about price sensitivity. So we had a lot of price sensitive clients. You had the historic interest rate rise and people simply got a little sticker shock. We've seen that slowdown though substantially moderating, and we expect our pipeline has been growing this month in the S-block and I-block side, so we expect it to get more normal for the same reasons with the interest rate as the interest rates top out. So we're not concerned by that at all. We just got more liquidity from that business, and that went into obviously fed funds at 475, so it didn't really have an impact. It didn't really have an impact. And we want to have excess cash because we ultimately will lock in and buy fixed rate securities when the time is right. So we're, we were, I think that's going to slow down a lot and over this quarter and the next quarter, there won't be as many pay downs. And even if there was pay downs, it's not going to have a big impact on our financials.

Yes. Okay. That's helpful. Thanks everybody.

Thank you. [Operator Instructions] Your next question comes from Frank Schiraldi with Piper Sandler. Please go ahead.

Thanks. Good morning.

Good morning, Frank.

On the just a follow up on the loan book, the S-block, so Damian, you talked about a stronger pipeline there. Is it still probably in the near-term sort of net pay downs, do you think or do you think it's more stable that business at these levels?

Well, what we've seen in the, up this month, is that there's stability returning. So and the pipeline has been growing. It's just that they were so steep, the interest rate increases over such a short period of time people opening their -- getting their what they had to pay for their coupon all of a sudden radically changed their perception of maybe borrowing against securities and insurance. But it's been stabilizing this month, so it should moderate a lot. And once again, if we're, -- I don't think it will be as anywhere near as high as it was in the first quarter. Right? It would be more towards the flat side. I can't be sure of that, but it will be more towards the flat side. And even if we did have pay down, say half as much as we did in the first quarter, once again, that would just go into our cash position and it would be at 5% or 5.25% at fed Funds.

Right. Okay. And then on the multifamily bridge loans, if you add that to the legacy portfolio you still have on the books is that sort of, are you at the limits of what you want to see on the balance sheet? Just curious if you have more room to grow that business overall or if loan growth will be more driven by by SBA going forward?

Yes, Frank, I think that we do have some room, extra room there because the loans we're making now are apartment building loans. And if you recall, when COVID was an issue we actually cited the company, the consultants that went back all the way back to the Great Depression and documented that the type of lending that we do is one of the most, is one of the safest forms of lending that we can do. So we're confident we can increase that and have a measurable effect on the balance sheet.

Yes. And remember that we're -- generally it's 300% of capital. We're going to keep that book, but there is, and a lot of ways we can recycle those loans. Like we're not going to do CLO type structures like we have done in the past, but there's a very large market for those type of loans to recycle, and we would take gain and fees for anything that we thought was in excess of that. So we've got room and obviously our capital is grow -- even with our buyback, our capital is growing significantly this year. So we do have room.

Okay. And then, then just lastly with the forward curves, sort of implying that we're near peak of Fed funds and implying, I mean, we'll see what happens, but implying that we get down significantly in rates in terms of fed funds in 2024. I know you have floors in these multi-family loans that protect you on the way down. Can you give any, you know, any sort of detail on other hedges you might have on the portfolio or what your expectations are for the NIM given let's say a 25 basis point contraction in Fed funds?

Yes, so as you saw in our, our mix is shifting every day now. So we're putting out fixed rate exposure, excluding the bonds in all our programs at a greater rate. And the new CRE loans obviously have very high floors on them, right? So we're getting less, less asset sensitive by the day. And if we have normalized rates over the next 18 months in the four plus range, there really will lock in a lot of, get rid of a lot of that asset sensitivity just with the loans that we're doing. Now, if we add to that a substantial purchase and fixed rate bonds, obviously as we top out our rates and they start to cut, the yield curve will disinvert hopefully, and then that's when we'll start the purchase program of fixed rate securities and that should really mitigate any downside. Our base case is that rates are not going to go far below, you don't know this, but far below, say in the 3.5% range for the foreseeable future. If they do, of course, more of the floors kick in in the loans, and will by, be way before that, we'll buy a substantial amount of, we have just so much more flexibility than probably the average bank just because we have such a big part of our balance sheet that has not been invested in long-term security. So it's kind of the opposite. It is the opposite situation of where all the problems are in banking. Obviously we didn't do any of that. So now we have, can take full advantage of higher long-term rates, especially if the view and yield curve changes and we'll lock those rates in.

Okay. So you think, you put up a NIM in the mid-4s, 4% range. Do you think that's doable in a sort of a sub 4% Fed funds kind of outlook in 2024? If that's where we get?

Yes, we're, we can't be sure, but I think we're going to be able to stay. It totally depends on the Fed net overreacting to things and when going back to zero interest rates, even though we were at zero interest rates and we were making a 19% ROE too. So I think if you have any kind of normal situation in the, we get normal fed fund rates and they're in the, this is very sustainable and if we have a little bit of time we're going to get far less asset sensitive. We did this in 2018, we got far less asset sensitive just at the right time, and I think we've left ourselves immense flexibility to be able to lock in long-term fixed rates in the portfolios.

Great. Okay, thanks for all the color.

Thank you. Your next question comes from Tim Switzer with KBW. Please go ahead.

Hey there, thanks for taking my question. I'm on for Mike Perito. I just wanted…

Good morning.

Hey, good morning. Could you clarify real quick on the comments you just made about your plan to maybe start purchasing these treasury securities? Are you going to wait until you see the Fed starting to cut or are you going to be a little bit more proactive? It sounded like you're waiting until the Fed cut.

Well, usually that's the best time, but we'll start when we feel, and we're looking at this on a daily basis, we're looking at and have a lot of advisors on this and looking obviously of all the market color [ph], but there's -- we don't have to do panic buying because we've got a lot of flexibility. So we can see how it plays out the interest rates on a long, we have to see inflation numbers. There's some this morning, there's probably in a few minutes and we're just going to, we're going to watch it. We have so much room, we could easily buy $1.5 billion, $2 billion of fixed rate securities at a much higher rate than obviously our peer group. And we'll, we're going to constantly watch it and then start nibbling when we thing the time is right and then fully allocate that part of the balance sheet in order to mitigate our variable rate exposure on some of our other assets like our institutional business. And once again, there's variable parts of our portfolio that aren't really variable because they have floors like the CRE loans. So we're in a very good position and we're going to remain flexible like we did before, and take full advantage of our current balance sheet position. It's much easier obviously in a higher interest, the rate to trade for fixed for verse variable than it is the other way around as we all learned, obviously. So we're watching everything. We're going to continue to put on loans that are fixed rate every day. Our asset sensitivity goes down and we get the benefits of much higher rates on the loan side. We haven't changed any of our standards on underwriting. Some people have, we have not. And we, that will over the next year, especially if rates don't have a drastic change we should be able to navigate it and maintain our NIM.

Okay. Yes, that's pretty clear. And let's say the Fed hikes one more time and then holds it right here. Would you expect continued NIM expansion over the rest of the year as you keep growing this loan book?

Well, you're going to, yes so you're, there's still some lag, as we've discussed before. Our funding costs adjust immediately and then it takes up to 90 days or more for our to fully adjust in our variable rate loan book. So you're still having a wave of adjustments come through the system. Plus every loan we put on, I think people in the marketplace see that our loans are even our pricing above a 100% of the increase. And that's because we're putting on, which is really strange to get that kind of bump in the revenue numbers, but we're getting over a 100% in the loan book because we're putting on these much higher rate assets that are fixed. So yes, it should continue to expand for those two reasons.

Okay, great. And if we look at the loan portfolio, take out the S-block and the runoff commercial portfolio I think you did about 5% quarterly loan growth. Is that reasonable to expect over the rest of the year for the other categories?

Yes.

Okay, great. Thank you. That's all from me.

Thank you. There are no further questions at this time. Looks like we have a following question from David Feaster. Please go ahead.

Hey maybe just following up, kind of touching on the expense side, obviously there's some seasonally higher expenses. I'm just curious, maybe given the revenue strength, are we starting to accelerate some expenses or projects or was there anything maybe more one time in that other expense line item? And then just as we think about kind of the efficiency ratio, it kind of sounds like with some of the initiatives that you're just talking about, do you think we kind of stay here in that low 40% realm, or given the stability and the, the growth opportunities? I mean, do we drop below 40%? Just curious how you think about that.

Yes, well it'll be around 40%, but it could drop below that obviously because of the revenue growth. But go ahead, Paul.

Yes, so the expenses that was the non-interest expense was driven largely by number of employees and staff additions in terms of salary expense. Other expenses also increased. Those were volume driven, volume driven by new customers, new accounts the transaction, the increase in GDP and other transactions. We expect that some of those expenses will moderate. There was some catch up expense in terms of number of employees, but we have very good prospects, we have really good growth and there has to be some anticipatory hires. So we're looking at new products, we want to be fully staffed and we need to be fully staffed for compliance reasons, for financial crime support and so forth. So we see the bank continuing to grow at least at double digit rates. And so we are staffing up for that.

Okay, that makes sense. So continue, so this is kind of a good core run rate and again, expect some continued growth as we're just in the growth in the expense line on just as we're planning for future growth that you're talking about.

Yes. And remember we had, yes, but remember there's some real core inflation in the economy too, which hit us. So, we made salary adjustments for our employees, we've changed grades. It's good sign that attrition is down across the industry. Ours is about half of what the industry is, and we have incredible stability in our top 70 to a 100 employees. We have virtually no attrition in that group of individuals, but that adds to it, so we'll see how, what happens with core inflation, how that affects employee costs and stuff. But, we definitely see a moderation, I think Paul, right. We'll definitely see a moderation.

Yes, I think, we'll still have as Damian said, we had some inflation adjustments to our salary structure. So you'll still see some elevated, increases compared to the prior year. But over the next year or so, it should moderate, when we have more fully staffed up, which we need to do.

Yes. But we're investing a lot, I mean, from our whole tech stack to how we use the cloud to across our entire portfolio, putting new systems, the best systems there are for things like ACH, et cetera, those investments have been happening continuously for the last five. That's why we have our position in the marketplace because we really have built a substantially robust infrastructure and ecosystem across not only the tech aspects of it, but all the compliance, third party risk oversight, all those things are incredibly important for the programs that are our partners.

Makes a lot of sense. Thank you.

Thank you. Your following question is from Tim Switzer. Please go ahead.

Hey, thanks for taking my follow up. I was actually going to ask about expenses, but since I'm on here, if I can get a quick one. The tax rate was just a little bit lower this quarter. What are your expectations going forward?

Ongoing, the tax accounting is a little bit confusing and I won't go into the details here. We do talk about it in our 10Q and so forth, but I think for your models, the normal historical rate of around 26% is closer to an annualized rate.

Okay. Perfect. Thanks. That's all from me.

Okay. Thanks Tim.

Thank you. There are no further questions at this time. Mr. Kozlowski, please go ahead.

Thank you for joining us today. We really appreciate it, and we'll talk soon. Operator, you can disconnect the call.