Equity Bancshares Inc Q1 FY2024 Earnings Call

Hello, and welcome to the Equity Bancshares Incorporated Q1 2024 Earnings Conference Call. My name is Harry, and I will be coordinating your call today. I would now like to hand over to your host, Brian Katzfey, Vice President, Director of Corporate Development and Investor Relations at Equity to begin. Please go ahead.

Good morning. Thank you for joining us today for Equity Bancshares' first quarter earnings call. Before we begin, let me remind you that today's call is being recorded and is available via webcast at investor.equitybank.com along with our earnings release and presentation materials. Today's presentation contains forward-looking statements which are subject to certain risks, uncertainties, and other factors that could cause actual results to differ materially from those discussed. Following the presentation, we will allow time for questions and further discussion. Thank you all for joining us. With that, I'd like to turn the call over to our Chairman and CEO, Brad Elliott.

Good morning, and thank you for joining Equity Bancshares' earnings call. We're excited today to take you through our first quarter results, including record net interest income, strong overall earnings, and the completion of our merger with Rockhold Bancorp, just 67 days after a formal announcement. Joining me today is Rick Sems, our Bank President; Chris Navratil, CFO; Krzysztof Slupkowski, our Chief Credit Officer. We entered the year positioned to grow our balance sheet and revenue streams through both organic and acquisitive avenues. During the quarter, we executed on this positioning with the cash acquisition of Rockhold, as well as organic commercial loan growth. The Bank of Kirksville added more than $340 million in core deposits over eight locations in North Central Missouri. Our new team members in the market are excited to be a part of the Equity Bank franchise, and continue to provide excellent service to their communities. Our team remains focused on organic growth initiatives while completing the transaction. Rick has worked hard to enhance the sales culture throughout our organization which will pay dividends through the remainder of the year. We have excellent leaders and operators throughout our organization that I expect to thrive under Rick's leadership. Growth in earnings, driven by our growing balance sheet, allowed us to emphasize shareholder return through continuation of quarterly dividends as well as active participation in our share repurchase program. During the quarter, we repurchased 209,591 shares under the current authorization of up to 1 million shares. While uncertainty remains in the economic environment, our bank closes the quarter with a well-positioned balance sheet to continue to take advantage of opportunities to grow both organically and through strategic M&A. Our team members are engaged, and have the tools to meet the needs of our community. I am proud of how we started the year and look forward to continuing our positive momentum. I will let Chris talk you through our financial results.

Thank you, Brad. Last night we reported net income of $14.9 million, or $0.90 per diluted share. Adjusting for merger expenses incurred related to the Bank of Kirksville as well as the day one provision for the acquired performing loans, net income was $16.1 million or $1.03 per diluted share. Net interest income was up $4.7 million linked quarter while net interest margin improved from 3.49% to 3.75%. We will discuss margin dynamics in more detail later in this call. Non-interest income, adjusted for the loss on the repositioning of investments in Q4, was up $4.5 million linked quarter. The positive trend was driven by $2.7 million in positive outcomes on special assets as well as $1.2 million in gain on acquisition related to the Bank of Kirksville transaction. In addition to these non-run rate items, we also saw service fee revenue, including service charges, debit card, credit card, trust and wealth management and mortgage, improve by 5% during the quarter. Non-interest expenses adjusted for one-time M&A charges totaling $35.5 million, or modestly up linked quarter and in line with expectations based on the timing of the Bank of Kirksville close. While we are still in the process of finalizing the accounting for the Bank of Kirksville transaction, original estimates continue to appear in line with 2024 EPS accretion of $0.36. The gain on acquisition is primarily due to the improvement in the fair value of Kirksville's bond portfolio between the announcement date and close. As previously disclosed, the merger of systems will be completed during Q2, after which cost savings are expected to be fully realized. Our GAAP net income included a provision for credit loss of $1.0 million. The provision for the quarter is entirely attributable to the day-one adjustment to reflect the acquisition of the Bank of Kirksville portfolio. We continue to hold reserve for potential economic challenges; however, to date, we have not seen any specific concerns in our operating markets. The March 31 coverage of ACL to loans is 1.28%. I'll stop here for a moment and let Krzysztof talk through our asset quality for the quarter.

Thanks, Chris. Asset quality metrics continue to screen at historically low levels, with total classified loans closing the quarter at $39 million or 6.65% of total bank regulatory capital. The acquisition of Bank of Kirksville had a negligible impact on the bank's problem asset position. Non-accrual loans as a percentage of total loans remained below 70 basis points. Net charge-offs annualized were 8 basis points for the quarter. Recognized charge-offs have been reflective of specific circumstances on individual credits and not related to broader concerns in the markets in which we operate. Under the current interest rate environment, we have updated our portfolio stress test and completed a full cycle of annual reviews and renewals incorporating the latest operating results of our borrowers. These evaluations continue to affirm the resiliency of the portfolio and highlight the strength of local economies as evidenced by our credit quality trends. Nevertheless, we acknowledge that risk remains. Through the end of the first quarter, we have not seen specific deterioration in any of our portfolios. As mentioned previously, we benefited in the quarter from the resolution of specific assets totaling $2.7 million, and are reflected in other income. This positive result is primarily driven by recovery on two credits from the Almena State Bank acquisition and the effort of our legal and special assets team led by Brett Reber and June Pressnell. Chris?

Thanks, Krzysztof. Average loans increased during the quarter at an annualized rate of 11.1%, excluding the impact of the Bank of Kirksville, which added $67.6 million in average balance into the quarter. During the quarter, the coupon yield on loans increased to 6.83% from 6.71%. Overall loan yields improved 23 basis points during the quarter to 6.85% as the headwinds impacting Q4 2023 results were not repeated. Our bond portfolio yield improved to 3.84% from 2.73%. The positive trend was driven by the bond repositioning during the fourth quarter, in addition to the purchase accounting marks on the Bank of Kirksville portfolio. Cost of interest-bearing deposits increased 19 basis points to 2.77% in the quarter, while the contribution of average noninterest-bearing deposits to the average deposit mix declined to 21.7% from 22.8%. The Bank of Kirksville transaction was accretive to this number. We closed the quarter with a period-end ratio of 22.5%. Net interest income totaled $44.2 million during the quarter, up $4.7 million in the fourth quarter, as our earnings streams benefited from previous period strategic decisions and continue to outpace rising funding costs. We continue to carry excess cash balances, which are offset by wholesale borrowings. We are currently earning a positive spread on these positions, though it does have the effect of reducing margin. We calculate that the excess liquidity has the effect of reducing margin by 8 basis points for the current quarter. Non-interest expense during the quarter was $35.5 million, excluding $1.6 million in realized merger charges. Salaries and benefits increased $1.4 million due to annual compensation adjustments, the addition of Kirksville team members, and front-loaded payroll tax impact. As previously disclosed, the integration of systems following the Bank of Kirksville transaction will take place in Q2, after which cost saves will be fully realized. Our outlook slide includes a forecast for the second quarter as well as full year 2024. We do not include future rate changes, though our forecast still includes the effects of lagging repricing in both our loan and deposit portfolios. Our provision is forecast to be approximately 12 basis points to average loans. Rick?

I am pleased with our start to 2024 and all that we are positioned to accomplish moving forward as we continue to emphasize value creation in our markets. Our team was able to successfully close a merger transaction in 67 days following an announcement, an incredible accomplishment in the current environment. I need to give Julie Huber and her entire team a big shout out. This result is only possible with the full leadership team working together. While working through the transaction, our legacy customer base and markets remained in focus. We started the quarter strong, but have seen some of our expected Q1 loan closings move to Q2. In addition, we continue to take advantage of opportunities to exit certain credits and low-yielding loans. With that said, we believe our prospects remain strong for the remainder of the year. As we close the quarter, pipelines remain strong, increasing 15% from year-end. And we look to build on our culture of sales as we move forward. As we drive a culture of sales, we have hired a Managing Director of Sales and Training, seasoned executive, Betty Bergquist. Betty will be aligning our team with the primary focus of organic growth. During the quarter, customer deposit balances, excluding Bank of Kirksville accounts, trended consistently with expectations as excess municipality dollars that were added in Q4 were moved out. Total deposits closed the quarter at $4.4 billion. Loans as a percentage of deposits closed at 79.7%, positioning our bank to be a capable lender for new and current customers in our footprint. Our teams are focused on value creation through deepening relationships, identifiable expertise, and application of a high-operating tempo that ensures our customers receive the high level of service they have come to expect of our bank. This focus, coupled with the opportunity provided by our balance sheet position and growing marketplaces, has me excited for our outlook over the remainder of the year. Partnering with the Bank of Kirksville and their committed team of banking professionals provides added scale and market expansion, which will contribute to our growth goals throughout 2024. Early feedback shows an engaged team exceeding expectations. As indicated in our outlook slide, we continue to expect to drive mid- to high-single digit organic loan growth in 2024. We have the strategy, discipline, tools and people in place to realize this expectation. I look forward to assisting the team in execution. Service revenues improved quarter-over-quarter, including increasing contributions from card, trust and wealth management, service charges and mortgage. Our teams are focused on enhancing customer value in 2024 and beyond which we expect to drive expansion of business lines moving forward. Finally, I am pleased to announce the addition of Craig Dunn, Regional CEO in our Community East market, including Western and North Central Missouri. Craig joins us with extensive experience in the markets he will now be overseeing. I look forward to partnering with Craig as we look to continue to build in these markets.

Our company is well capitalized. Our asset quality metrics continue to be the best they have been in the history of Equity. Our balance sheet structure is positioned for times like this. Our team is experienced, and we have a widespread granular deposit base. Our strategic directives for 2024 have me more excited than I have been since the beginning of 2020. Our team has taken the Board's strategic initiatives and are hitting the ground running. We look forward to continuing to redeploy assets into customer relationships that build franchise value. We continue to see momentum on the M&A front and expect that to continue. We've had several positive conversations, and we feel the distressed market will begin to resolve itself as well. Equity will remain disciplined in our approach to assessing these opportunities, emphasizing value while controlling dilution and the earn-back timeline. With that, we are happy to take your questions.

Our first question today is from Terry McEvoy of Stephens Inc. Terry, your line is now open. Please proceed with your question. If you could just repeat your question, that would be appreciated. Thank you.

Yeah, sorry about that. Good morning, everybody. Chris, how are you thinking about a higher for longer rate environment in terms of where and when deposit rates will peak in your forecast?

Our current forecast does not take into account any changes in interest rates, so we are not anticipating any reductions or increases. It remains stable at the current level. Regarding peaking deposit rates, we have been considering a maximum beta of between 40% and 50%, but we are currently below 40%, with a beta of about 36%. I expect that we will reach above 40%, but I am hopeful that we won't hit the previously discussed high levels of around 50%. We continue to see opportunities with deposits, and since a significant portion of our portfolio is already positioned at the higher end of the market, we have some room for repositioning. Therefore, we expect to reach 40% on an overall beta and potentially exceed it, though I believe we will remain below 50%, even in a prolonged high-rate environment.

Excellent. Seems like once you're asked the question on fee income, can you just remind me where you've made investments and where you see incremental growth in fees this year?

Yeah. So, I think we're seeing incremental growth on the treasury management side in our service revenues, and then we're also seeing it in our wealth management area. So, we just kind of rolled out a new product set with some bundles on business side. So, we continue to expect to see some growth in that area.

And if you remember, Terry, a couple of years ago we started our corporate credit card business and that is still not mature yet. So, I think we have still lots of room for expansion, which creates interchange income off of that corporate credit card business.

And then maybe I'll squeeze one last one in. Brad, the 67 days from announcement to close, so many other deals are just have been delayed much, much longer and extended. I guess my question is, what's the special sauce? What's working for you to announce a deal, get it closed, get it converted and move on to your next one? Because others just haven't been as successful.

Well, I think some of that is just communication with the regulators on what you're working on, what fits their box and our box, and having it be something in our footprint that doesn't have lots of issues around it. And so, I think it has to do with delegated authority outside of Washington DC is what really helps those transactions. And so, let's don't tell everybody in the world that, that happened so that somebody doesn't figure out how to squash that. So, we're crossing our fingers and just happy that it's happening that way.

Perfect. Thanks for the insight. Appreciate it.

Our next question today is from the line of Brett Rabatin of Hovde Group. Brett, your line is open if you'd like to proceed with your question.

Hey, guys, good morning. Wanted to start with the commercial real estate portfolio and just what's repricing on that this year and next year, and just how much opportunity might you have to reset the bar, so to speak, on some of the loan portfolio from a yield perspective?

Yes, this is Rick. We are repricing each month, averaging about $100 million. As the rates continue, we still have a significant amount, and I will need to provide you with the specific number. However, we are adding approximately $100 million monthly, with rates averaging between 8.3% and 8.5%. There is still potential for further repricing. We will also have the exact figures regarding what is maturing each quarter available. In cases where we cannot secure that rate, we may choose to terminate those relationships if they do not provide enough meaningful business.

We began the cycle with over 50% of our portfolio being variable rate. That was two years ago, and we did not extend our commercial deals beyond five years, with most typically being three years or less. I am unsure of the remaining dollar amount, but it is not significant.

I think in total, I can't remember the exact number. We discussed it last quarter, and we'll get you that information.

Okay. Appreciate that. And then just on the loan pipeline, it sounds like you guys are pretty optimistic on growth this year, maybe relative to some peers. And just wanted to hear maybe how much of that was just organic growth with your existing customers versus maybe some opportunities to take market share from maybe some other banks that are pulling back given their balance sheet constraints, et cetera?

We are actively reaching out to potential clients, and we've noticed some positive progress, particularly in the commercial and industrial sector. We've experienced slight growth in the first quarter for C&I, and we aim to see more as we approach the second half of the year. A significant portion of this growth is attributed to new business. However, as always, while we have opportunities in the pipeline, there are no guarantees for closing those deals. Nonetheless, the more engagement we have, the greater our opportunities become for this year and beyond.

Okay. And if I could sneak in one last one, too, on the deals that you guys are looking at, is there a benchmark or a way for us to think about accretion levels that you would consider with transactions from here?

Maybe a little bit of detail on that, Brett, in terms of accretion level, what are you referring to? Like, what you're looking for in terms of running rate accretion versus what we're willing to accept on dilution or...

Yes. When considering transactions, it's important to note that any deals involving a bank's balance sheet may have some undervalued assets, making the pricing potentially attractive. Therefore, it's about addressing someone's balance sheet that is struggling. As these opportunities arise, think about what your criteria might be for tangible returns and earnings per share growth and what you would expect from these transactions.

So, I would say, we haven't changed our parameter on earn back. So, if accretion waters down equity, we would, I mean, it still has to be less than a three-year earn back, or maybe even less than that, because there is some risk in that accretable yield going away quicker. But we haven't changed any of our parameters on what we're looking at from a transaction standpoint.

Yeah. And one other thing I'd just add, Brad, is, as we think about those transactions, we're trying to look at them in terms of the fair value of that balance sheet after we're done, so when the marks are kind of all the way through the process. So, as we look at pricing, as we look at a lot of the conversations we're having, it's focused more on what is the balance sheet worth versus what is tangible book value today. So, willing to accept a little bit less dilution, typically just because of the way we're looking at structuring those transactions.

Okay. That's helpful. Thanks, guys.

Our next question today is from the line of Andrew Liesch of Piper Sandler. Andrew, your line is open if you'd like to proceed with your question.

Thanks. Good morning, guys. So, just a question. Now with the Bank of Kirksville deal closed, has the asset sensitivity of the balance sheet shifted much at all?

Not meaningfully, Andrew. The Kirksville assets are relatively short, but there's a little bit of duration in there. So, you're still looking at kind of two to three years overall. They don't have a lot of fixed long term on the loan side. And then, their liabilities are predominantly non-time based. So, in theory, completely flexible, but just kind of depends on how the market moves in competition base.

Okay. So, still pretty neutral to rate changes?

Yeah. You might talk about some of the positives we're already seeing in there.

We are currently experiencing growth in deposits and have an engaged customer base, which serves as a strong source of deposits. We are also able to introduce a variety of our digital products in this market. The feedback from our clients has been very positive, and I believe we will see continued growth in deposits as we approach the end of the year.

Got it. That actually kind of leads into my next question on funding the loan growth for this year. Is it going to come from client deposit growth, or is there any remixing of assets that might fund it as well?

I believe the answer is both client deposit growth and, optimistically, we'll achieve all the loan growth we hope for. Additionally, there will be some funding through wholesale borrowing because we have the capacity to do so. Our bond portfolio, particularly the Kirksville portfolio, is very short, so we will see cash flows coming in that allow us to reposition into loans. We also have some cash, as you mentioned during the call, from the excess liquidity we're carrying that can be redeployed into loans. Therefore, we have opportunities right now to redeploy assets to enhance customer relationships, and these cash flows will continue throughout the year.

And I would add that given the discipline that we've had on cost of funds, it just gives us dry powder to make a decision as things move in the market. So, I think we're on a real strong point there, as Chris had said, to do either one.

Got it. That's all really helpful. I'll step back. Thanks for taking the question.

Thank you. Our next question is from the line of Jeff Rulis of D.A. Davidson. Jeff, your line is open. Please go ahead.

Thanks. Just a couple of credit questions, if I could. Some encouraging linked-quarter statistics. Maybe going back to last quarter, that primary residence mortgage credit that was brought on or identified, any movement on that specifically?

Yeah. We were able to get that. We actually sold the note and moved that credit on.

Okay. And then, a broader question on, I guess, the balance of existing NPAs or even classifieds, of that, what were acquired versus kind of legacy? I know that blurs the lines, but as we've talked about, I think, you've been successful in chasing down sort of gains from or recoveries from acquired loans. Just trying to get a sense for of the bucket of NPAs or classifieds, what of that is acquired and what was underwritten legacy?

If you look at the past few years, you'll see that most of our problem assets are loans we've acquired. More than half of what you're seeing falls into that category, and this has been consistent for a while. Additionally, our problem assets appear to be decreasing each quarter. This decline is partly due to a slowdown in mergers and acquisitions, but it is also attributed to our special assets and legal teams focusing on resolving these issues and effectively managing the contracts we have to improve our positions.

Krzysztof, regarding the assets you've acquired, do you feel we are nearing the end of that process? Do you believe there is an opportunity for further recoveries? I'm trying to understand if there’s a percentage of recoverable assets. Can you provide an update on where you currently stand with what you’ve acquired so far?

Yes, I would say the big wins have already been won, and whatever there's a little bit of it left, not much. But I would say, on the recovery side, there's probably less opportunity going forward. I would say that our problem assets loans today, they're well reserved and I don't see any further losses or recoveries in that space.

We do have a large recovery that we are still chasing out there. So, substantial one that is still out there.

Got it. Brad, I appreciate your thoughts on mergers and acquisitions. Shifting to the buyback, can we consider that you might pursue both options? Specifically, it seems shares are trading close to the average price from last quarter. I'm curious about the interest in the buyback; is it impacted by or increasing due to M&A opportunities? Or do you think it will remain stable or possibly increase in the short term from your viewpoint?

I believe we will remain active in both M&A and the buyback market. Unlike a few quarters ago when we anticipated the Kirksville transaction, we don't have any imminent announcements at this time. Previously, we halted buybacks to conserve cash for that specific deal. Currently, while we are engaged in discussions regarding M&A, none of those require as significant a cash commitment as the Kirksville deal did. Therefore, I think we will continue to take advantage of opportunities in the buyback market.

Okay. Thank you.

And our next question today is from Damon DelMonte from Stephens. Damon, your line is open. Please go ahead.

Hey, good morning, everyone. Hope you are all doing well. My first question is about the margin. This quarter, Chris, the margin was 3.75%. How much fair value accretion was included in that?

The total fair value accretion there is when you combine all of our transactions, so not just BOK specifically, there was $150,000 in loans as well as less than $0.5 million in bonds.

Okay. And how should we think about kind of a projected fair value accretion going forward?

The bond portfolio we acquired was $5 million below its expected value. We plan to gradually recognize that $5 million over the next two to two-and-a-half years, which aligns with our initial disclosures during the deal discussions. The fair value adjustment on the loan book is slightly more than $3 million, which we anticipate realizing over a period of three-and-a-half to four years.

Got it. Okay. And then, does the guidance that you guys provided in the slide deck incorporate the projected fair value, or is that excluding that?

It includes it.

It includes it. Thank you. And then, regarding the C&I growth, I'm sorry?

I was just saying it's reflective of the BOK, yeah.

Okay. Great. Thank you. And then, with regards to the C&I growth this quarter, how much of that was increased in line utilization versus new credits coming on the books?

It was new credits.

It was all new credits? Okay. And do you do you have a level of where the line utilization stands today and kind of how that's fared more recently?

I don't have that right in front of me. We can get that for you.

Yeah, we...

Okay. Great.

Yeah, we don't have that calculator.

Okay. No problem. Lastly, regarding the commercial real estate, I appreciate the information on the upcoming maturities. From a broader perspective, are you having proactive discussions with the borrowers whose loans are set to mature and have their rates reset? This way, you can assess whether you'll need to move them off the books or find an alternative solution to avoid having several credits exit in one quarter, which could affect overall growth. Are you engaging in those early conversations with them?

Yeah. We're absolutely being proactive on looking at that. I mean, that's why we try to work ahead at least a minimum of a quarter ahead to have those conversations. And then, as we're bringing them into credit committee, we have those discussions on yields and then also on ones in which there might be something that we just don't like the credits. And as Krzysztof has done and his team has done, I mean, we're doing a lot of stress testing on it to understand if rates are being reset, what that's going to look like. So, we're working well ahead of that. We know that now. We know that in advance for those ones that are at very low rates being raised up based on what their performance has been, if they can handle it or not. So yes, we're absolutely doing that proactively.

Got it. Okay. Great. That's all that I had. Thank you very much.

Thank you. We have no further questions in the queue at this time. So, this will bring us to the end of the Equity Bancshares Incorporated Q1 2024 earnings conference call. Thank you all for joining. You may now disconnect your lines.