Good morning, and welcome to the Independent Bank Corporation Reports 2023 Second Quarter Results Conference Call. My name is Carla, and I will be the operator of today’s call. [Operator Instructions] I would now like to pass the conference over to our host, Brad Kessel, President and CEO, to begin. Please go ahead when you’re ready..

Good morning, and welcome to today’s call. Thank you for joining us for Independent Bank Corporation’s conference call and webcast to discuss the company’s second quarter 2023 results.

I am Brad Kessel, President and Chief Executive Officer; and joining me is Gavin Mohr, Executive Vice President and our Chief Financial Officer; as well as Joel Rahn, Executive Vice President, Head of Commercial Banking.

Before we begin today’s call, I would like to direct you to the important information on Page 2 of our presentation, specifically, the cautionary note regarding forward-looking statements. If anyone does not already have a copy of the press release issued by us today, you can access it at the company’s website, independentbank.com.

The agenda for today’s call will include prepared remarks, followed by a question-and-answer session and then closing remarks. So let’s get started. Independent Bank Corporation reported second quarter 2023 net income of $14.8 million or $0.70 per diluted share versus net income of $13 million or $0.61 per diluted share in the prior year period.

The increase in 2023 second quarter results as compared to 2022 is primarily related due to increases in net interest income and non-interest income and a decrease in non-interest expenses that were partially offset by an increase in the provision for credit losses and income tax expense.

For the second quarter of 2023, we generated an annualized return on average assets and return on average equity of 1.18% and 16.29%, respectively, as compared to 1.10% and 15.68% in the second quarter of 2022.

Significant items impacting the comparable second quarter of 2023 results included the changes in fair value due to price of our mortgage servicing rights and a provision for credit losses on loans. We delivered another quarter of strong financial results with net income and pre-tax, pre-provision income both increasing from the prior quarter.

We continue to see good performance in our deposit base and have successfully brought in many new full banking relationships. Overall, our net interest margin is stable and our credit continues to perform very well.

Economic conditions remain generally healthy throughout our markets, and we continue to see attractive lending opportunities, which led to our total loans increasing at a 14% annualized rate in the second quarter.

Our commercial pipeline is healthy with high quality lending opportunities and we believe that we can continue to grow our portfolio of clients, capturing additional market share and deliver strong financial performance for our shareholders.

With the loan-to-deposit ratio at 80.9%, we believe we have the capacity to continue to support our ongoing growth of our loan portfolios. We have a very granular deposit portfolio with just 20.5% of our deposits uninsured.

In addition, we have a high level of available liquidity with $2.2 billion in secured borrowing access and borrowing capacity on unpledged securities. Overall, our deposit base continues to perform well. Total deposits at June 30 were $4.49 billion, down slightly from the $4.54 billion at March 31, 2023.

Total deposits for the first half of 2023 have increased $108.6 million, or 5% annualized. During this period, we have seen some level of remixing of our funding as customers take advantage of the interest rate spread opportunities. Our non-interest bearing deposits are down $114.2 million. Savings and interest bearing checking are down $44.3 million.

Reciprocal deposits are up $118.4 million, time deposits are up 109.8 million, and brokered time deposits are up $38.9 million. We have included in our presentation a historical view of our cost of funds as compared to the Fed funds spot rate and the Fed effective rate for the quarter. Our total cost of funds increased by 32 basis points to 1.57%.

Through the second quarter, the cumulative beta for our cost of funds is 29.4%. At this time, I would like to turn the presentation over to Joel Rahn to share a few comments on the success we have in growing our loan portfolios and provide an update on our credit metrics..

Thank you, Brad. On Page 8, we provide an update of our very well-diversified loan portfolio. Total loans increased $121 million in the second quarter. Each of our portfolios experienced solid growth in the quarter, with the strongest segment being commercial lending growing by $66 million.

We continue to see the return on our strategic investment in the expansion of our commercial banking team. The experienced talent that we’ve added over the past 24 months has been a strong contributor to our commercial growth, which on an annualized basis was 9.8% in the first half of the year.

Looking forward, based upon a strong pipeline, we expect to see continued growth in the second half of the year. It’s worth noting that the majority of our growth was in the C&I segment, with an emphasis on full relationships, which Brad just commented on a minute ago, including deposits and treasury management services.

Despite the higher rate environment, our mortgage and installment portfolios experienced growth in the quarter as well, with strong underlying credit profiles as noted. Page 9 provides detail on our commercial loan portfolio. As just mentioned, C&I lending continues to be our primary focus, representing 65% of the portfolio.

Manufacturing continues to be the largest concentration within the C&I segment, comprising approximately 10% or $152 million. The remaining 35% of the portfolio is comprised of commercial real estate, with the largest concentrations being industrial at $134 million or 8.7%, and retail at $133 million or 8.6%.

It’s worth noting that our exposure to the office segment stands at $79 million or 5.2% of our commercial portfolio at quarter end. This particular segment of our portfolio continues to perform very well. For additional insight into our office exposure, I refer you to the appendix attached to this presentation.

Page 10 provides an overview of key credit quality metrics at June 30. Overall, credit quality continues to be excellent. Total non-performing loans were $4 million, or 0.11% of total loans at quarter end.

Loans, 30 to 89 days delinquent totaled $4.4 million, or 0.12%, at June 30, up slightly from March 31, primarily due to a slightly elevated consumer loan delinquency. At this time, I’d like to turn the presentation over to Gavin for his comments, including the outlook for the remainder of the year..

increase in yield on loans and investments added 21 basis points; and change in earning asset mix added 3 basis points. These increases were more than offset by an increase in funding costs of 25 basis points and 6 basis points, which were due to changes in funding mix.

We will comment more specifically on our outlook for net interest income and the net interest margin for 2023 later in the presentation. On Page 14, we provide details on the institution’s interest rate risk position.

The comparative simulation analysis from second quarter of 2023 and the first quarter of 2023 calculates the change in net interest income over the next 12 months under 5 rate scenarios. All scenarios assume a static balance sheet. The base rate scenario applies the spot yield curve from the valuation date.

The shock scenarios consider immediate, permanent and parallel rate changes.

The increase in the base rate forecasted net interest income in the second quarter of 2023 compared to the first quarter of 2023 is primarily due to an improvement in asset mix with an increase in loans and a decline in investments, along with a slight benefit from higher rates.

These improvements were partially offset by an adverse shift in the funding mix. Sensitivity is largely unchanged during the quarter as the adverse impact from changes in the deposit mix were offset by additional hedging and term funding transactions. Currently, 29.9% of assets reprice in 1-month and 42.5% reprice in the next 12 months.

Moving on to Page 15. Non-interest income totaled $15.4 million in the second quarter of 2023 as compared to $14.6 million in the year-ago quarter and $10.6 million in the first quarter of 2023. Second quarter of 2023 net gains on mortgage loans totaled $2.1 million compared to $1.3 million in the second quarter of 2022.

The increase is primarily due to increased profit margins and fair value adjustments that were partially offset by lower mortgage loan sales volume.

The mortgage loan application mix moved to a higher percentage of saleable loans in the quarter, positively impacting non-interest income was $3.7 million gain on mortgage loan servicing due to $2.2 million of revenue and $2.4 million or $0.09 per diluted share after tax increase in the fair value due to price that was partially offset by $1 million decrease due to paydowns of capitalized mortgage loan servicing rights in the second quarter of 2023.

As detailed on Page 16, our non-interest expense totaled $32.2 million in the second quarter of 2023 as compared to $32.4 million in the year ago quarter and $31 million in the first quarter of 2023.

Compensation increased $1 million compared to the prior year quarter due to raises that were effective at the start of the year, a decreased level of compensation that was deferred in the second quarter of 2023 as direct origination costs on lower mortgage loan origination volume and an increase in lending personnel.

Performance-based compensation decreased $0.6 million due primarily to lower expected incentive compensation payout for salaried and hourly employees, and a decrease in mortgage lending-related incentives attributed to the decline in mortgage lending compared to the second quarter of 2022.

Costs’ recoveries related to unfunded lending commitments decreased by $0.5 million in the second quarter compared to the same prior year period, due primarily to a decrease in loss rates applied to lending commitments.

Data processing costs increased by $0.2 million from the prior year period, primarily due to core data processor annual asset growth and CPI related cost increases and lower net mortgage processing related cost deferrals due to lower mortgage loan volume as well as a prior year-to-date period, including a credit from our core data processor related to certain expenses that had been previously paid and expensed.

Page 17 is our update for our 2023 outlook to see how our actual performance during the second quarter compared to the original outlook that we provided in January of 2023. Our outlook estimated loan growth in the low-double-digits. Loans increased $121.3 million in the second quarter of 2023, or 13.9% annualized, which is above our forecasted range.

Commercial mortgage and installment loans had positive growth in the second quarter of 2023. Second quarter 2023 net interest income increased by 6.3% over 2022, which is lower than the forecast of high-single-digit growth. The net interest margin for both the second quarter of 2023 and 2022 was 3.26%, which is below our original forecast.

The second quarter 2023 provision for credit losses was an expense of $3.3 million, or 0.37% annualized. The second quarter 2023 provision expense was the result of an increase in specific reserves on one commercial credit as well as an increase in the pooled loan reserve and subjective loan allocations due primarily to loan growth.

The provision expense related to loans in the second quarter of 2023 was higher than our forecasted range. Non-interest income totaled $15.4 million in the second quarter of 2023, which is higher than our forecasted range of $11 million to $13 million.

Second quarter 2023 mortgage loan origination, sales and gains totaled $160.5 million, $99 million and $2.1 million, respectively. Mortgage loan servicing generated a gain of $3.7 million in the second quarter of 2023.

Non-interest expense was $32.2 million in the second quarter within our forecasted range of $32 million to $33.5 million targeted quarterly. Our effective income tax rate of 18.8% for the second quarter of 2023, which is in line with our forecast.

Lastly, 200,000 shares were repurchased in the second quarter of 2023 at an average share price of $16.35. Shares were purchased at a price below tangible book value of $16.45. That concludes my prepared remarks. Now, I would like to turn the call back over to Brad..

Thanks Gavin. These strong results, which our company has been delivering quarter-over-quarter, year-after-year for some time, is directly attributable to our talented team, their focus on personalized service, investing in our communities and making banking easy.

Our financial results once again gained us nice recognition in American Banker’s 2023 Annual Ranking of Community Banks. We were also pleased to again be listed by Forbes as one of the Best-In-State Banks in America.

This ranking was the result of their partnership with Statista as they surveyed consumers on bank service, the quality of financial advice and whether fees are transparent and reasonable. The survey also inquired on ease of use of the digital services, convenience of branch locations, and overall level of trust inspired by the company.

Our team is very proud of this recognition. Also, during the second quarter of this year, we were proud to receive certification as a great place to work. As we proceed through the second half of 2023, our focus will continue to be on investing in our team, leveraging our technology and supporting our communities.

In doing so, we will continue the rotation of our earning assets out of lower yielding investments into higher yielding loans. With the strong value proposition offered as a leading community bank, we believe we continue to grow our deposit base, while managing our cost of funds and controlling non-interest expenses.

Accordingly, we are excited about the opportunities we have to continue our growth trends. We’ve built a strong franchise which positions us well to effectively manage through a variety of economic environments and continue delivering strong and consistent results for our shareholders.

At this point, we would now like to open up the call for questions..

Thank you. [Operator Instructions] Our first question comes from Damon Delmonte from KBW. Your line is now open. Please go ahead..

Hey, guys, this is Matt Renck filling in for Damon. I hope everybody is doing well. My first question relates to the mortgage income you guys had.

Do you see the profit margin expansion as a sustainable and maybe the start of a trend? Or is it just kind of a normalization?.

Yeah, I would say – Matt, this is Gavin, and thanks for joining today. So I would call it stable. Where we have seen some benefit is in the secondary market, there’s a significant pay-up right now for low-loan balance mortgages.

So we haven’t really changed our target margin, but we have seen a little bit of upside in what the pay-up has been on those low-loan balance saleable mortgages..

Okay. Got it. And then just my second question relating to deposit mix shift.

If we get another interest rate hike in the next few months, do you think mixed shift will start to accelerate again or you think it’s kind of leveled out at this point?.

Well, I want to say – I think, it’s leveling out. I don’t think – I guess, I would say, though, that the mix shift will probably continue. I don’t think the pace will accelerate, but there’s still some mixing going on..

Got it. Thank you. I’ll step back..

Thanks, Matt..

Thank you. [Operator Instructions] Our next question comes from Erik Zwick from Hovde. Please go ahead when you’re ready..

Hey, good morning, guys. Justin Marca on for Erik today.

Just curious if you had any general comments on the loan pipeline mix, if there’s any sort of industry concentrations in there today?.

It’s pretty diversified. So, no, I would not say that we have one specific concentration. I think it remains relatively true to our overall portfolio mix, that two-thirds, C&I; one-third, investment real estate. That’s something we watch carefully.

And even as we’re out – our bankers are looking for opportunities, they know what our appetite is and isn’t. So, yeah, the majority of it continues to be C&I focused..

Okay. Great.

And just curious, what drove the quarter-over-quarter increase in other income? If there was any sort of non-recurring items in there?.

Just look at here….

Yeah, I think we had the swap fees..

Yeah, sorry. And you’re looking the linked quarter or I didn’t hear what the quarter….

Linked quarter, yeah..

Yeah, sorry. It was swap fees..

Okay, great. And then just one last one.

Did you have an average share price on the buyback this quarter?.

Yeah, it was $16.35..

Okay. All right. Great. Thanks for taking my questions..

Thanks, Erik. We have no further questions at this time. So I will now hand back to your host, Brad, for final remarks..

In closing, I would like to thank our Board of Directors and our senior management for their support and leadership. I would also like to thank our associates. I continue to be so proud of the job being done by each member of our team.

Each team member, in his or her own way, continues to do their part toward our common goal of guiding our customers to be independent. Finally, I would like to thank each of you for your interest in Independent Bank Corporation and for joining us on today’s call. We wish you all a great day..

This concludes today’s call. Thank you for joining. If you would like to listen again, there will be a replay available shortly. You may now disconnect your lines..