Earnings Call Transcript
Bank of Marin Bancorp (BMRC)
Earnings Call Transcript - BMRC Q3 2024
Krissy Meyer, Corporate Secretary
Good morning, and thank you for joining Bank of Marin Bancorp’s Earnings Call for the Third Quarter Ended September 30, 2024. I am Krissy Meyer, Corporate Secretary for Bank of Marin Bancorp. During the presentation, all participants will be in a listen-only mode. After the call, we will conduct a question-and-answer session. Joining us on this call today are Tim Myers, President and CEO; and Tony Girton, Executive Vice President and Chief Financial Officer. Our earnings news release and supplementary presentation, which were issued this morning, can be found in the Investor Relations section of our website at bankofmarin.com, where this call is also being webcast. Closed captioning is available during the live webcast as well as on the webcast replay. Before we get started, I want to note that we will be discussing some non-GAAP financial measures. Please refer to the reconciliation table in our earnings news release for both GAAP and non-GAAP measures. Additionally, the discussion on the call is based on information we know as of Friday, October 25, 2024, and may contain forward-looking statements that involve risks and uncertainties. Actual results may differ materially from those set forth in such statements. For a discussion on these risks and uncertainties, please review the forward-looking statements disclosure in our earnings news release as well as our SEC filings. Following our prepared remarks, Tim, Tony; and our Chief Credit Officer, Misako Stuart will be available to answer your questions. And now, I'd like to turn the call over to Tim Myers.
Tim Myers, President and CEO
Thank you, Krissy. Good morning, everyone, and welcome to our quarterly earnings call. Our third quarter results reflect the positive benefits of the actions we took in the second quarter to both reposition our balance sheet and reduce operating expenses. This resulted in an increase in our net interest margin, a lower level of operating expenses and improvements in our ROA and efficiency ratios. On a broad basis, we continue to have strong asset quality within our loan portfolio and work through previously reported matters with no new issues emerging. The combination of these positive trends and some share repurchases led to an increase in our book value per share. Our banking team, reinforced with new members, is doing an outstanding job of developing attractive lending opportunities and generating solid loan production while still maintaining our disciplined underwriting and pricing criteria. During the quarter, we generated $44 million in total loan commitments with $28 million funded. Along with the portfolio of residential mortgage loans purchased as part of the balance sheet repositioning, this resulted in a small increase in our total loan balances during the quarter. We are building a more diversified pipeline of loans consistent with our disciplined underwriting that we expect to fund in future quarters and positively impact both our total loan balances and our average loan yields. We also have positive trends in fee income. Additionally, total deposits increased $96 million during the quarter, primarily driven by a $55 million increase in non-interest-bearing deposits, including $17 million coming from nearly 1,200 new deposit accounts during the quarter. Our proportion of non-interest-bearing deposits increased slightly to 45% of total, as we continue to benefit from our relationship banking model with high-touch service. We were able to initiate our falling rate deposit strategy in anticipation of Fed funds rate cuts, and deposit balances increased with typical third quarter seasonal inflows. In terms of asset quality, we are seeing general stability in the portfolio with no material new problem loans. Given our improved financial performance and prudent balance sheet management, our capital ratios remain very strong, with a total risk-based capital ratio of 16.4% and a TCE ratio of 9.72%. Our strong capital and confidence in credit quality positioned us to resume share repurchases last quarter, buying back 220,000 shares totaling over $4 million. We believe this was in the best interest of our shareholders, preserving our high capital level and maintaining our flexibility to make capital allocation decisions that will enhance shareholder value. With that, I'll turn the call over to Tony to discuss our financial results in more detail.
Tony Girton, Executive Vice President and CFO
Thanks, Tim. Good morning, everyone. Bank of Marin continues to focus on further strengthening our core deposit franchise and maintaining robust liquidity and capital levels while delivering exceptional service to existing and new customers as we position for further earnings improvement in the future. We generated $4.6 million in net income for the third quarter, or $0.28 per share as we began to realize the full anticipated benefit to profitability of the balance sheet restructuring we did during the second quarter. Our net interest income increased 8% from the prior quarter to $24.3 million, largely driven by an 18 basis point increase in our net interest margin, primarily due to balance sheet repositioning and a shift in deposit pricing that reversed the upward trend in deposit costs while staying aligned with the broader market. By the middle of the third quarter, our net interest margin had increased by 30 basis points over the level just prior to the balance sheet repositioning, consistent with our expectations, and we continue to see that benefit. The yield on loans was negatively impacted by 9 basis points in the third quarter as a result of interest reversals on two non-accrual loans, reducing net interest margin for the quarter by 6 basis points. Our non-interest expense decreased by $1.5 million from the prior quarter, mostly due to a decline in salaries and benefits expense from staff reductions made in the second quarter and continued reallocation of staffing to align with the strategic direction of the bank. Additionally, the decline resulting from charitable contributions annually granted in the second quarter was offset by a $615,000 accrual for a non-repeatable legal resolution, which negatively impacted earnings per share by $0.04. Moving to non-interest income, excluding the loss on security sales that impacted our second quarter results, we had an increase in non-interest income largely due to an increase in wealth management revenue. Our total deposits were $3.3 billion at September 30. As Tim mentioned, we typically see seasonal inflows in the third quarter and due to the nature of our client base with many professional services firms, we expect to see some seasonal outflows in the fourth quarter due to bonus payments, profit and other distributions and larger business expenses. Our average cost of total deposits increased just 1 basis point in the third quarter compared to a 7 basis point increase in the prior quarter. Not only does that continue the deceleration of deposit cost increases seen in the first and second quarters, but it also reflects a turn in deposit costs late in the third quarter. Since initiating our declining rate deposit pricing strategy, the average spot rate on non-interest-bearing balances decreased by 18 basis points, while the balances themselves went up approximately $10 million by September 30. Our pricing strategy weighs rate reductions in the context of relationship pricing balance sheet growth and net interest margin considerations. Disciplined credit management remains a hallmark of Bank of Marin as well. Classified assets were down primarily due to one classified non-accrual loan for $1.8 million that was paid off in full, including all accrued interest. Non-accrual loans had a net increase primarily related to an $8.1 million real estate loan whose renewal negotiations remain ongoing with no expectations for actual losses. As Tim mentioned, overall, there were no new issues and increases were partially offset by pay downs, payoffs, and returns to accrual status. 50% of non-accrual loans are paying as agreed, and 80% are secured by real estate. Due to the stability in our loan portfolio, we did not record any provision for credit losses in the third quarter and we reversed $233,000 in provisions for losses on unfunded commitments. The allowance for credit losses remains high at a level of 1.47% of total loans. Loan balances of $2.1 billion at the end of the third quarter were up $8 million from the prior quarter. We had some movement from construction loans to CRE loans, while the largest area of growth was in residential mortgages, primarily due to the portfolio of high-quality in-market residential mortgage loans that we purchased with part of the proceeds from the securities sales in the second quarter. Given the continued strength of our capital ratios, our Board of Directors declared a cash dividend of $0.25 per share on October 24, the 78th consecutive quarterly dividend paid by the company. With that, I'll turn it back over to you, Tim, to share some final comments.
Tim Myers, President and CEO
Thank you, Tony. In closing, we are seeing the positive results of proactive strategic balance sheet and expense management actions taken in the second quarter, and we expect these trends to continue, resulting in further improvement in our level of profitability. We started reducing rates in late August on liquid funds earning higher-priced exception rates and continue to pass through reductions in deposit rates simultaneously with Fed rate cuts in September. We have not seen any meaningful outflow of deposits, which is consistent with the historical experience of our business model, leading with service and relationship pricing, not solely on higher-than-average rates. We expect to see more declines in our cost of deposits, which should contribute to further expansion in our net interest margin as the yield curve normalizes. We continue to be more active in our business development efforts, while remaining conservative in new loan production and maintaining our disciplined underwriting and pricing criteria, and are seeing an increase in the loan pipeline due to the higher level of productivity from our banking teams. We typically see some seasonal strength in loan production in the fourth quarter each year, and based on current trends, we expect that to be the case again this year. The pipeline is well diversified across industries and our markets. And while we continue to carefully manage expenses and reduce costs in certain areas of the company, we are also continuing to make investments in both talent and technology that will further enhance our level of efficiencies, improve the overall customer experience we can offer and increase our ability to attract new clients to the bank. We also continue to have a very strong balance sheet with high levels of capital, liquidity and research. Given the strength of our balance sheet and the banking talent we have added in the past several quarters, we believe we are very well positioned to increase our market share at attractive new client relationships and generate a higher level of loan growth as economic conditions and loan demand improve. We believe that this will help us to consistently generate profitable growth in the future and further enhance the value of our franchise for our shareholders. With that, I want to thank everyone on today's call for both your interest and support. We will now open the call to your questions.
Operator, Operator
Thank you. Our first question comes from Woody Lay. You may now unmute your audio and ask your question.
Woody Lay, Analyst
Hey, good morning, guys.
Tim Myers, President and CEO
Good morning.
Tani Girton, Executive Vice President and CFO
Good morning.
Woody Lay, Analyst
I wanted to start on expenses. They came in a little bit better than what I was expecting. You had the recent staffing restructures and it sounded originally like a lot of those savings would be reinvested into the company. But I just wanted your updated thoughts on the sort of expectation for 4Q expenses and just how you think the expenses trend from here?
Tim Myers, President and CEO
Yeah. So I'll talk high level, Woody, and then Tani can add any other details. So the expense savings are yes, both from the reduction in force and other cost-saving measures. And frankly, we're ahead of spend expectations on a number of our technology and digitalization initiatives. So we'll continue to look for ways to accomplish our strategic objectives there. There are some positions still to fill. But overall, I believe we're still ahead of what we thought we would accomplish vis-à-vis those cost-saving efforts. Tani, anything to add?
Tani Girton, Executive Vice President and CFO
I don’t have anything to add. I believe that explains our expected reductions in our initial projections for those investments. There have also been some delays, so some costs don’t align perfectly with our projections. Additionally, we are still searching for talent, but those expenses will be incurred once we find the right candidates.
Woody Lay, Analyst
Yeah. All right. That's great color. Maybe shifting over to the margin. So we got the bump from the recent restructure and it sounds like some interest reversals were a headwind in the third quarter, so we should get a nice tick up in the fourth quarter. But how do you think additional rate cuts from here impact the forward outlook to the margin?
Tani Girton, Executive Vice President and CFO
So if we look at the September net interest margin versus the third quarter average, it was higher by about 2 basis points, but some of that noise was still in there. So I think we're going to get some lift from that. We still have 26 basis points in upward loan repricing embedded considering a flat balance sheet and flat rates. Our proactive deposit strategy, we're closely monitoring, but continuing forward with that strategy. So that should be a tailwind for us on that. The cash position can fluctuate. So depending on what's going on with deposit balances and our cash position and then where the Fed goes with rates, that could have some impact on it. But if you consider that the most likely scenario is the Fed move in November with a steeper yield curve that could also help. So while I don't want to put a number on it, I think you identified some of the bigger movers and then we still have some things that, obviously, we can't control, but the things we can control, we're still watching and working on very diligently.
Woody Lay, Analyst
Yeah. Got it. And then last for me, I just wanted to shift to the buyback. It's the first time you all have repurchased some shares since the start of 2022. Could you just talk about what made you comfortable reengaging on the buyback and is there further appetite from here?
Tim Myers, President and CEO
Yeah. Certainly, our credit quality. As we got more comfortable with the credit quality, the loss potential certainly in light of our capital ratios are very strong capital ratios and the valuation. Obviously, we continue to believe the stock is undervalued. And once we got a better sense that we didn't think there were a lot of hits to capital lurking in there, we got a lot more comfortable. So we'll continue to look at that. We always have to juxtapose that option with all the other available options, but we'll continue to keep an eye on that.
Woody Lay, Analyst
All right. Thanks for taking my question.
Tim Myers, President and CEO
Thanks, Woody.
Operator, Operator
Our next question comes from Matthew Clark. You may now unmute your audio and ask your question.
Matthew Clark, Analyst
Hey, good morning, everyone.
Tim Myers, President and CEO
Good morning, Matthew.
Tani Girton, Executive Vice President and CFO
Good morning.
Matthew Clark, Analyst
I'd like to revisit the expense run rate. Can you provide more specific information? Are we expecting to remain flat in the fourth quarter, or do we anticipate growth? Additionally, what are your expectations for the seasonal increase in the first quarter? Historically, it's been in the high single digits, but it seems like you've been moderating that seasonal increase recently. I'd like to hear your updated thoughts on this.
Tani Girton, Executive Vice President and CFO
Yeah. So typically, we do have some expenses hit in the fourth quarter sort of for all our true-ups. We also try to true up our bonus and incentive payment accruals to the extent we can. And as you said, we are trying very, very hard to minimize the reversals in the first quarter associated with that, but it's always really hard to project exactly what those are going to be. But we will still have the annual resets of the 401(k) and then the bonuses. So we will have the typical pop in the first quarter in expenses that we normally see.
Matthew Clark, Analyst
Okay. And then can you also give us the all-in spot rate on deposits? I know you excluded some balances there, but I just want to get the all-in cost of deposits either total or interest-bearing?
Tani Girton, Executive Vice President and CFO
Yeah. Let me grab that...
Matthew Clark, Analyst
And the average margin in September, even if it's adjusted or unadjusted either one.
Tani Girton, Executive Vice President and CFO
The average margin in September, you mean the net interest margin?
Matthew Clark, Analyst
Yes.
Tani Girton, Executive Vice President and CFO
Yeah. That was $2.70.
Matthew Clark, Analyst
Okay. Consistent with the quarter, does that include the 6 basis point negative impact or is that excluding it?
Tani Girton, Executive Vice President and CFO
Yes. That includes it. You said you wanted the spot rate on the deposits?
Matthew Clark, Analyst
Yeah.
Tani Girton, Executive Vice President and CFO
Let me come back to you with that. I've got a lot of pieces of paper in front of me, and I want to make sure I'm looking at the right one. Was there one other thing you had, Matthew?
Matthew Clark, Analyst
Yeah. One other question just around the San Fran office credit from last quarter. I think your specific reserves were $6.7 million. I just want to get an update there whether or not that's the number has changed. And is it fair to assume those are realized out of existing reserves in the fourth quarter?
Tim Myers, President and CEO
So you're referring to the reserve we accounted for in the previous quarter. There has been no change in that. In fact, leasing activities have increased, with three new leases signed in Q3 for that property. We are continuing to see that overall trend in San Francisco. The provision was reduced to below 100% loan-to-value based on a recent valuation before these new leases were signed. Therefore, there has been no further deterioration or additional provision required for that large property.
Matthew Clark, Analyst
Okay. Thank you.
Tani Girton, Executive Vice President and CFO
Matthew, the spot rate on deposits on September 30 was 1.43%.
Matthew Clark, Analyst
Perfect. Thank you.
Operator, Operator
Our next question comes from Davis Feaster. You may now unmute your audio and ask your question.
David Raymond, Analyst
Hey, good morning, everybody.
Tim Myers, President and CEO
Good morning, David.
Tani Girton, Executive Vice President and CFO
Good morning.
David Raymond, Analyst
Maybe just touching on the growth side. I mean, curious kind of what you guys are seeing. Originations slowed a little bit. I'm curious, is that a function of demand? And just where are you seeing opportunities and the appetite to continue to supplement organic growth with potential pool purchases?
Tim Myers, President and CEO
Sure. So yes, linked core originations were down, but that's just a function of timing. We don't have a real granular pool of loan types that we do. So there is going to be some lumpiness. We expect it to be better. We have closed $10 million since quarter end that just got pushed over, and we feel very good about the quarterly pipeline. So when you're looking from a longer-term growth perspective, we're very happy with the trends we're seeing in activity. Activity begets originations, obviously, that begets results. So we see a consistent trend and higher levels of activity that are generating higher pipeline. That's pretty diverse through our footprint. The loans closed were diverse out of our footprint. We're seeing kind of a shift from C&I last quarter to more CRE this quarter. But again, they're lumpy assets. So that will shift, I think, quarter-to-quarter. Construction loans, we've had some refinance into permanent. The new ones we're seeing are much smaller, more granular, $2 million, $3 million for infill projects. So no real big projects coming from there. So it's a lot of blocking and tackling, David. It's a nice mix between our new people. We did hire a new producer in Q3, and that's already resulted in closings but it's a nice mix between that and our existing team. So it's just getting a more consistent approach to, again, calling activity that leads to pipeline building that used to closing. So while every quarter won't be on the exact same trend line, we're optimistic with what we're seeing.
David Raymond, Analyst
Okay. And then where are you seeing new loan yields on production today? And then just following up on your commentary about hiring, where you talked about an appetite for continued hires. Obviously, it's got to be the right people at the right time. Curious where you're seeing opportunity? How those conversations are going? And maybe what segments or markets you're looking to add to you at this point?
Tim Myers, President and CEO
Yeah. So if you look at the people we both hired and the ones we're talking to, it's really speckled throughout the footprint. And if you look at some of the banks that we're hiring from, they might not have had as much of a regional micro regional focus as we did, meaning they focus on the entire Bay Area. So their specific location is not necessarily indicative within the Greater Bay Area where that growth might come from. Back to the yield question, just looking at the commercial loans last quarter, we're at about 6.5% yield on new loans versus the 5.63% that paid off. So it's still very competitive for high-quality loans, but those are the loans we're booking.
David Raymond, Analyst
Got it. And then lastly for me, I want to touch on the core deposit side. It's encouraging to see the growth, particularly in non-interest-bearing deposits, and you've mentioned some of the seasonal effects. I was hoping you could quantify how much of this is seasonal versus the success you've had in opening new accounts. I'm curious about the specific seasonal impacts and how you view core deposits moving forward, along with where you're seeing success.
Tim Myers, President and CEO
Yeah. Thank you. We did have the seasonal inflows, but we also had some seasonal outflows, about $18 million of the growth in non-interest-bearing came from new relationships. Those are deposit accounts we expect to fund up. But again, the timing of that is unclear. So a lot of that was seasonality, but we did have a nice gain from new fundings and new account openings, and about that was about split pretty evenly between consumer and business.
Tani Girton, Executive Vice President and CFO
And I would say that the new accounts, that's been pretty consistent over the last several quarters. I mean we've been getting around 1,200 to 1,300 new accounts every quarter for several quarters running now.
David Raymond, Analyst
Right. That’s great. Thanks, everybody.
Tim Myers, President and CEO
Thank you, David.
Operator, Operator
Our next question will come from Jeff Rulis. Please go ahead with your question.
Jeffrey Rulis, Analyst
Thanks. Good morning.
Tim Myers, President and CEO
Good morning.
Jeffrey Rulis, Analyst
I have a couple of follow-up questions, Tani. The expense level was $20.4 million this quarter, which included the elevated legal accrual that you mentioned, over $600,000. Looking ahead to the fourth quarter, you mentioned some resets or adjustments coming up and possibly a bump in the first quarter. Can we assume that the legal expenses won't recur in the fourth quarter and that we'll see either flat or declining expenses? I just wanted to clarify that.
Tani Girton, Executive Vice President and CFO
Yes. I'm not aware of anything in particular that would cause an increase, and once that legal settlement is resolved, it will not happen again.
Jeffrey Rulis, Analyst
Okay. If we consider everything, I'm looking for a broader perspective on 2025. Given the efficiency improvements you've made this year, what do you think is a reasonable growth rate for next year? Understanding that you would be open to hiring if opportunities arise, should we plan on a growth rate around 3% to 4% for 2025?
Tani Girton, Executive Vice President and CFO
I think typically, when we begin our strategic planning process, we start with a 3% growth rate and build from there. However, we still have some ongoing strategic investments. Looking ahead to 2025 and beyond, we plan to implement efficiency improvements each year. This will extend over the next four to five years. I understand this may not be as specific as you would like, but that's our approach.
Jeffrey Rulis, Analyst
Okay. You started at three and you're going to be working hard to. Fair enough. And then on the margin, I just wanted to clarify, Tani, I thought you said that the September margin was a couple of basis points above the quarterly average.
Tani Girton, Executive Vice President and CFO
Sure. I misspoke earlier; the figure for September was actually $2.72, not $2.70. Thank you.
Jeffrey Rulis, Analyst
Got it. Okay. And including some negative headwinds that may be offset by the tailwinds going forward, even exiting at $2.72, right?
Tani Girton, Executive Vice President and CFO
Yeah.
Jeffrey Rulis, Analyst
Okay. Thank you. And then just on the credit side, it sounds like the loan that moved to non-accrual, kind of administrative in nature. Any more color on that loan or I think you had mentioned maybe real estate, but...
Tim Myers, President and CEO
Yeah. It's office CRE. Some of our loans have a mechanism whereby if certain conditions are met, the loan extends out beyond its original maturity. There are times, depending on an agreement or disagreement about whether those conditions have been met. It's in a part of San Francisco that has actually attractive trends for obvious lease activity and there is sponsorship. It's just a protracted process of negotiating those conditions such that that extension can take place. So it's a little more technical and administrative in nature than certainly some of the other ones.
Jeffrey Rulis, Analyst
Okay. Last one for me, Tim, you mentioned the pipeline a couple of times. Do you happen to have the quarter-over-quarter? Like where we sit today versus where you had entered the third quarter just in dollar terms?
Tim Myers, President and CEO
It's quite a bit bigger, but I'm really reluctant, Jeff, as you know, to do that. It fluctuates, and again, there's a lumpiness aspect to it. So we don't have guidance, but it's considerably bigger today than it was at the start of the last quarter.
Jeffrey Rulis, Analyst
Okay. And so, I lied on the tax rate, Tani, do you have any read on what we should model or think about go forward on taxes?
Tani Girton, Executive Vice President and CFO
For this year, the tax rate is elevated due to the significant loss we incurred. Whenever we generate income, we are effectively reversing some of the tax benefits from that loss. However, I expect the tax rate to normalize by 2025.
Jeffrey Rulis, Analyst
Which is around 25%. I think you've said previously, 25%.
Tani Girton, Executive Vice President and CFO
It was, I think, closer to 26%, 26.5%.
Jeffrey Rulis, Analyst
Okay. All right. Thank you.
Tani Girton, Executive Vice President and CFO
Yeah.
Tim Myers, President and CEO
Thank you, Jeff.
Operator, Operator
Our next question will come from David Feaster. Sorry. Your line is open. You are free to ask your question.
David Feaster, Analyst
Hi. Sorry. I just wanted to hop back in and maybe ask a little bit about the margin trajectory as we look forward. I mean, you touched on a lot of the dynamics, but that 26 basis points of embedded loan repricing, is that all next year? I'm just looking at the repricing chart, and we talked about loan growth coming on in the mid-6s. But some of what's maturing is coming off around the low 7s. So I'm just kind of curious, how do you think about the trajectory of the margin as we look out to next year?
Tani Girton, Executive Vice President and CFO
Yeah. That 26 basis points is over the next 12 months. So – but the margin is marching higher but not in any big steps. It’s just kind of marching.
David Feaster, Analyst
Yeah. Okay. Thank you.
Tim Myers, President and CEO
Thank you, Dave.
Operator, Operator
And our next question comes from Matthew Clark. Please go ahead.
Matthew Clark, Analyst
Hey, thank you. Your beta, your deposit beta on the way up, interest-bearing, I think, was 47% this cycle. What are your thoughts on the beta on the way down this time around?
Tani Girton, Executive Vice President and CFO
We use a lower beta than that on the way down, and we also lag it. And so on the interest rate risk position, you'll see a different position this quarter when we published the Q than we saw last quarter because of the repositioning. So we are a little more sensitive to falling rates because we have a higher cash position and also the investments that we made in new securities were at shorter durations. And then I think we also have some swaps on the books that as rates go down, those will also have a negative impact. So again, the cash position has a pretty big impact on our sensitivity, and that is somewhat dependent on the cash flows associated with our deposits.
Matthew Clark, Analyst
Okay. Great. Thank you.
Operator, Operator
We have no further questions at this time. I will hand it back to Tim Myers for closing remarks.
Tim Myers, President and CEO
Thank you, everybody. We appreciate your interest and your questions. Please feel free to reach out if you have any further ones. Thanks.