Medallion Financial Corp (MFIN) Q1 2024 Earnings Call Transcript

Good day, and welcome to the Medallion Financial Corporation First Quarter Earnings Conference Call. Please note that today's event is being recorded. I would now like to turn the conference over to Ken Cooper with Investor Relations. Please go ahead, sir.

Thank you, and good morning, everyone. Welcome to Medallion Financial Corp.'s First Quarter Earnings Call. Joining me today are Andrew Murstein, President and Chief Operating Officer; and Anthony Cutrone, Executive Vice President and Chief Financial Officer. Certain statements made during the call today constitute forward-looking statements made pursuant to and within the meaning of the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 as amended. Such forward-looking statements are subject to both known and unknown risks and uncertainties that could cause actual results to differ materially from such statements. Those risks and uncertainties are described in our earnings press release issued yesterday and in our filings with the SEC. The forward-looking statements made today are as of the date of this call, and we do not undertake any obligation to update these forward-looking statements. In addition to our earnings press release, you can find our first quarter supplement presentation on our website by visiting Medallion.com and clicking Investor Relations. The presentation is near the top of the page. With that, I'll turn it over to Andrew Murstein, President.

Thank you, Ken. Good morning, everyone. Coming off a record-breaking 2023, we had a nice start to 2024. This included growing our loan portfolio on strong bottom line performance. Our Recreational Lending segment had a standout quarter and is now at $1.4 billion. Originations were up 4% versus the prior year quarter. We continue to originate new loans at elevated interest rates as compared to prior years, and the segment's average interest rate was up 38 basis points to 14.80% at quarter end. The average loan size in our portfolio stayed at roughly $20,000. Our allowance for credit loss level of 4.40% was up from 4.12% a year ago. Our other major consumer lending business, the Home Improvement Lending segment, grew approximately 12% over the prior year quarter to $752 million. This growth rate came down from the last year or so as origination activity slowed due to credit tightening. This segment continues to be focused on super prime borrowers with credit scores in the mid- to upper 700s, which keeps our delinquency and loss levels low. Our average interest rate for the Home Improvement Lending segment was 9.60% at quarter end with a 77 basis points of increase from a year ago, reflecting our ability to pass on some of the Fed rate increases to our borrowers, just like we have done in the Rec Lending segment. Our allowance for credit loss level of 2.38% was up slightly from the 2.19% a year ago. Our Commercial Lending segment had a strong quarter and included an equity investment exit, which resulted in a $4.2 million net gain. The loan portfolio was up 12% to $106 million with our average interest rate of 58 basis points to 13.0%. Our goal is to grow this segment prudently over time. And although excess can be unpredictable, there are key elements of the return on the business. The segment generated after-tax earnings of $3.6 million during the quarter. Finally, our Taxi Medallion segment collected $3.1 million in the first quarter. As we indicated on our call last quarter, we expect a sizable slowdown in cash collections related to taxi medallion assets on our first quarter unfolded as expected. During the quarter, cash collections translated into $1.6 million of net benefits to the income statement. And the segment continued to be profitable, generating after-tax net income of approximately $600,000. Our strategy continues to be to increase net interest income through smart loan growth with pricing that is optimal given the markets and competitive pressures we face. We expect to maintain high credit standards and use pricing to our advantage. We anticipate loan growth to continue to moderate, similar to 2023 from the levels we saw in 2022. Finally, during the first quarter, we used some of our excess cash to buy back $2.1 million of our common stock. Our authorized share buyback plan has $17.9 million remaining of the $40 million approved. And going forward, you should expect us to use it opportunistically rather than on any regular cadence. Our share buyback activity together with our $0.10 per quarter dividend and net income performance continues to deliver positive results for our shareholders. With that, I will now turn the call over to Anthony, who will provide some additional insight into our quarter.

Thank you, Andrew. Good morning, everyone. For the quarter, net interest income grew 10% to $47.9 million from the prior year, driven by increased interest rates on new loan originations and growth in our loan portfolio during the past 12 months. Our net interest margin on gross loans was 8.1% for the quarter, down 32 basis points from the first quarter last year and down 2 basis points from the fourth quarter of 2023. Compression in our NIM continues to be attributable to the higher interest rate environment with our average cost of funds increasing 100 basis points from last year, offset by a 56-basis-point increase in our yield as we continue to pass along a portion of these higher rates on new originations. During the quarter, we originated recreation loans at an average rate of 15.31%, and home improvement loans at an average rate of 12.05%, both in excess of the current weighted average coupons on those portfolios at 14.8% and 9.6%. As we've said in the past and which still holds true today, given the fixed-rate nature of our loans, increasing the average coupon yield is a slow process, slower than the rise of cost of funds. That said, we do anticipate that our average coupon yield will continue to increase well after our cost of funds plateaus, at which point the compression we've seen in our margin should reverse and begin to expand. Although we do still expect additional compression over the next several quarters, we believe that our level of NIM positions us well above industry norms. During the quarter, we originated $173 million of loans with total loans outstanding increasing 12% to $2.2 billion from a year ago, and we saw our yield increase to 11.34% from 10.78% over the same period. We maintain tighter credit criteria, which is consistent with our view of ongoing uncertainty in the economy. Non-prime recreation loans were 36% of the portfolio. And nonprime originations during the quarter were 30%, down from the 34% and 35% levels originated during the full 2023 and 2022 years. Our home improvement portfolio continues to be overwhelmingly prime and super prime credits with only 1% of loans being nonprime. Our provision for credit loss was $17.2 million for the quarter compared to $4.0 million in the prior year quarter. The provision included a net benefit related to taxi medallion loan recoveries of $900,000 in the current quarter compared to a net benefit of $7.1 million in the prior year quarter. Higher charge-off activity in both consumer products, partly attributable to seasonality, the lower taxi medallion recoveries and benefits, along with increases in credit loss allowance related to growth in the recreation portfolio, were the key drivers related to our change in provision from a year ago. Operating expense was $18.2 million during the quarter, which was down sequentially from $19.1 million in the fourth quarter and down slightly from $18.4 million in the first quarter of 2023. Our quarterly supplement on our website shows how over the past several years and continuing into the current quarter how operating expense as a function of net interest income has migrated lower. Quarter-to-quarter, this may fluctuate. But you could see that over time, the growth in our net interest income has well outpaced any growth in operating costs as we continue to grow and scale our lending businesses. For the quarter, net income attributable to Medallion Financial shareholders was $10 million, $0.42 per diluted share. That covers our first quarter results. Andrew and I are now happy to take your questions.

And today's first question comes from Christopher Nolan with Ladenburg Thalmann.

Let's see. Anthony, do you know what the nonperforming loan volumes were in the quarter?

Seasonally, those numbers are higher throughout the first quarter as we come out of our slow period and work down. But if we look at the end of the period, are you inquiring about delinquencies?

Yes, 90-day-plus delinquencies.

Yes. We're just pulling it up. On the rec, it's $6.4 million, $1.4 million in home improvement.

Got you. Okay. So it's down quarter-over-quarter. Last quarter was $13.8 million. So is that a fair assessment?

Yes. And it's typical what we see. Seasonally is November, December, January, things are slower, especially in the rec side of the business. People aren't towing their trailers, and they're not getting on their boats. But that starts to improve when the weather starts to improve.

All right. And then have you guys sort of heard any flexibility from regulators in terms of reserving. In the past, regulators sort of come down in terms of not having the reserves or would be like an earnings piggy bank, and see whether or not there's more flexibility for financial services companies like yours to boost reserves more than...

So our reserving and our allowance model isn't predicated upon necessarily what the regulators want. It's the models that we've put together, particularly with the implementation of CSIL. So we look at historic losses, we look at economic factors, but there's really no flexibility there as it pertains to the regulators' desires.

Okay. And then on that note, given that you don't have flexibility on the reserving, any plans to boost capital ratios at all? Or are you going to continue to run at similar capital ratios?

Yes. I mean at the end of the quarter, we're at 16.4%, so we need to maintain at least a 15% based upon our capital maintenance requirement at Medallion Bank. So we're comfortable that we stay above that number.

All right. Final question, tax rate. It went up in the quarter. Should we expect a higher tax rate in 2024? Or is it just sort of a seasonal thing?

Yes, it's seasonal, nondeductible expenses. Different aspects of the code get picked up in the first quarter. That should smooth out to a lower rate as we go through the year.

The next question comes from Mike Grondahl with Northland Capital Markets.

This is Luke on for Mike. Just looking at the P&L. So this was the first quarter in a while where net interest income dropped sequentially, I think down just over $1 million from 4Q. So wondering if you guys could just talk a little bit about what drove this and then how you're sort of thinking about this line item as we progress into 2Q and into the back half of the year.

I'm sorry, could you just rephrase that question real quick?

The net interest income dropping sequentially by a little over $1 million. Just wondering about what drove that in the quarter since it's sequentially gone up for the past several quarters.

Yes, it’s related to our volume. Our home improvement book remained relatively flat since December, although we did see a modest growth in our rec portfolio. Overall, total loans increased by only about 0.5% in the last three months, which impacted this area. We have noticed a rise in our cost of funds, and we have communicated that openly. Looking forward, we don’t expect this trend to continue. In April, our volumes were quite strong, with about $100 million in loans originated, 80% of which were in rec. Given the current rates, we anticipate that net interest income will start to rise beginning in the second quarter.

Got it. That's helpful. And then just looking at the EPS, the $0.42 and then if you back out the $0.04 Medallion collection benefit, and then as far as that $4.2 million equity gain in the quarter, if we kind of back that out, should more of a core EPS number for the quarter be like a $0.25?

Yes. The $4.2 million gain is related to our commercial lending business, so we don't consider it a noncore item. It's not just a one-time investment; it's integral to our business operations. The equity investments make up about 10% of our total commercial assets, so we wouldn't exclude that. Unfortunately, these investments don't model well since they involve private equity and sponsor-backed companies, and we can’t predict their exits. However, we have a history of successful exits. We also quantified the $0.04 benefit to keep our readers and shareholders informed about our sizable recoveries throughout 2023. We collected $3 million in cash and have $10 million in exposure. Going forward, we anticipate collecting between $1.5 and $2 million per quarter based on our portfolio's positioning, which will contribute positively to our bottom line consistently. As Andrew mentioned, after tax, we earned about $600,000 in that segment. While you can exclude it, we don't recommend doing so.

Okay. Yes. No, that makes sense. And then just lastly here, can you guys just touch on the month of April as far as originations and credit? And any sort of trends you saw in the month of April?

Yes, the volumes were strong. By the end of the month, we originated around $100 million in loans, with $80 million in receivables. To give you some context, in the first quarter, the rates for these originations were just over 12% for home improvement and 15.3% for receivables, which aligns with what we observed in April. We are pleased with this volume and expect these trends to continue into the second quarter.

And just as a point of reference, the $100 million is probably compared to about $80 million or so in April 2023. So it's up about 25%.

The next question is from Matthew Howlett with Nomura.

I want to congratulate you on the buyback for purchasing nearly 250,000 shares. Andrew, you mentioned that you'll be opportunistic with the buyback as cash collections come in from the medallions. How should we think about your plans for utilizing the remaining $17 million in authorization? Your stock is currently at a 30% discount to my calculation of tangible book value, and you're achieving a mid-teens return on equity. It certainly seems like a smart move to invest in the buyback.

I think we'll get to the full amount eventually. It's just hard to predict the timing, and I would like to do what we say. So the $40 million that was approved by the Board, as you pointed out, we're more than halfway through. I'm a fan of buybacks. I think they're a good use of our capital at the appropriate time. So it's just hard to predict sometimes. As Anthony just said, the volume looked great in April. So we'll put more money to use there where the ROEs are so high for us in that rec portfolio. So it'll be sporadically. With the stock dropping where we have extra capital available, I think it's a good time to jump in the market and pick up cheap stock.

Yes, I'd echo what Andrew just said, and just to add to that. Again, our loan book, it grew 0.5% in the quarter. Originations look really strong in April. We would expect that growth to be much higher in Q2. So to the extent that we didn't have to deploy it in growth in Q1, we did have that availability of capital to give back to the shareholders.

Got you. Just remind me again what your ending share count is currently.

We'll get the exact number. It's 23 and change.

23,377,564.

It's great to see the potential for growth here. This should positively impact any buybacks and our earnings per share. Congratulations on the loan growth, and I agree that buybacks are sensible at current valuations. Moving on to CDs and deposits, how far do you plan to go with those? It's generally believed that rates will remain high for an extended period. What are your thoughts on the rate cycle if we see some easing this year or early next year?

Yes, right. 3, 4 months ago, it was a different conversation than today. We were looking at 3 rate cuts. Maybe we get 1 now. I don't know, I'm not an economist. But typically, we match fund. We're not to the expected life of our loans. We're not seeing a significant change. Maybe a few months have been tacked on to that average life that hovers between the 2 consumer products around 36 months, a little higher and a little lower depending upon the product. But we go out, match funded. We're still issuing 3- and 5-year CDs. Some shorter term, but nothing drastic.

Did CD pricing change at all? Recently with the moving rates, I'm sure it's probably up a little bit.

Yes, it has increased slightly. It will vary, but we believe we are nearing the peak. This will lead to higher interest expenses throughout the quarter, resulting in some pressure on net interest margin. However, I believe we are well-positioned given our current situation.

It's like a pendulum. You'll start to move the other way with the Fed. When the Fed stops or starts easing, your rate might be coming down or changing more slowly on the liability side. In other words, I anticipate the margin moving back to 9% over time for normalization. How should we consider the margin in the next 24 months?

Yes. The rates may drop slightly more, but I don't anticipate any significant declines. Once our costs stabilize, we've managed to effectively increase the yield from our current assets and new originations. This trend will continue as the older, lower-yielding loans mature and newer, higher-yielding loans take their place. It's like a pendulum—we're currently leaning one way, but eventually, we're going to start expanding our net interest margin.

An 8% margin is excellent on its own. Any improvement is also great. Let's discuss the modeling for TriBeam and the partnership. I'm assuming this is capital light, meaning there's minimal capital investment from your side while you earn success fees from origination. I'm curious about how many more partnerships like this you could pursue in the next 24 months.

Yes, I believe Andy would agree with this. If he disagrees, he’ll let me know. The operations of our strategic partnerships have been somewhat disappointing as we haven't secured the right partner to create the volumes necessary for a viable business. However, we think we may have found that with this new partner. They are supported by strong companies and operate in an area that we are very familiar with, focusing primarily on solar installations. This aligns well with our expertise in home improvement, which presents significant volume potential. It requires little capital investment, and we might consider holding onto some of the financial agreements for a longer period than initially planned. We're hopeful that this will lead to profitability in this segment. If it achieves the returns we anticipate, we could potentially add another million or two to our bottom line for the full year, though it will never surpass the revenue from the recycling business.

This is after tax, something like $0.05 to $0.10 or something a year? Or is this...

I believe that's possible. It's challenging to validate others' forecasts. As Anthony mentioned, there are many overly optimistic projections in the fintech sector. However, I feel this group stands significantly ahead of many others we have considered this year. If their projections hold true, it could potentially contribute an additional $1 million to $2 million in earnings, and so far, the data seems promising.

No, look, that would be absolutely terrific, especially given you're really taking on no credit risk. You said maybe over time, you could add some of these loans to the book, but now this is just what the origination fee. And that's it?

Yes, we'll probably hold a paper for anywhere from 30 to 90 days, a little bit of paper, and they're all 760-type FICO scores, so a quality paper.

Going forward, do you think you could pursue more deals like this? It seems like with the bank and some of the fintech companies out there, is there room to explore other asset classes? Are you in discussions with other parties? Is there anything exciting happening?

The misses aren't failures; they simply indicate that you're not losing money, but they aren't contributing positively to profits. As you mentioned, Matt, this is a fee-based business, so the risks are minimal. If we look at other publicly traded banks in this sector, their return on equity is significantly higher, around 20% to 25%. When executed correctly, this can be a highly profitable business. Ideally, we would like to add another player in the next year or so. However, despite the appeal of this business, rapid growth poses compliance risks. Our bank has an excellent reputation with regulators, and they support us well. We need to be cautious and avoid reckless growth driven solely by increased volume. We have approached this growth methodically, and after being in this business for around three years, it's reached a level of maturity where it could potentially start to expand significantly.

Yes, compliance is essential for us, and there is a cost involved. While others in this sector may successfully manage to generate large volumes with narrow margins of 5 to 10 basis points, that approach is not feasible for us. We are not prepared to risk our reputation to work with such slim margins. Therefore, compliance is our primary concern. If this initiative succeeds and we can find more partners in a similar vein, we are open to pursuing that strategy.

Look, I got to commend you. I mean the ROE is clearly moving in the right direction. With the growth, the buyback, things like this really just go to improve an already pretty industry-leading ROE. So I got to congratulate you guys and keep up the good work.

Thank you. I appreciate it.

At this time, we are showing no further questioners in the queue, and this does conclude our question-and-answer session. I would now like to turn the conference back over to Andrew Murstein for any closing remarks.

Thank you again for joining us this morning. We're off to a great start to the year as you just heard. Each of our business segments has been part of this performance and have helped us navigate the current environment very well. Our teams are doing an excellent job of balancing growth of our loan portfolio and net interest income while maintaining high credit standards. We remain focused on delivering shareholder value, including earnings, our dividend, and periodic repurchases of our common stock. As always, if you have any questions, please feel free to contact our Investor Relations team. The contact information is on the last page of our earnings supplement as well as the IR section of our website. Thank you again, and have a great rest of your day.

The conference has now concluded. Thank you for attending today's presentation, and you may now disconnect.