RBB Bancorp Q3 FY2022 Earnings Call

Good day, everyone, and welcome to the RBB Bancorp Earnings Conference Call for the Third Quarter 2022. At this time, all participants are in a listen-only mode. Later, you will have an opportunity to ask questions during the question-and-answer session. I would now like to turn the conference over to Ms. Catherine Wei. Please go ahead.

Thank you. Good day, everyone, and thank you for joining us to discuss RBB Bancorp’s financial results for the third quarter of 2022. With me today are President, CEO and CFO, David Morris; EVP and Chief Credit Officer, Jeffrey Yeh; EVP and Chief Risk Officer, Vincent Liu; EVP and Chief Strategy Officer, Simon Pang; SVP and Chief Accounting Officer, Shalom Chang. David will provide a brief summary of the results which can be found in the earnings press release that is available on our Investor Relations website, and then we'll open up the call to your questions. During this conference call, statements made by management may include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are based upon specific assumptions that may or may not prove correct. Forward-looking statements are also subject to known and unknown risks and uncertainties and other factors relating to RBB Bancorp's operations and business environment, all of which are difficult to predict and many of which are beyond the control of the company. For a detailed discussion of these risks and uncertainties, please refer to the documents the Company has filed with the SEC. If any of these uncertainties materialize or any of these assumptions prove incorrect, RBB Bancorp's results could differ materially from its expectations as set forth in these statements. The company assumes no obligation to update such forward-looking statements unless required by law. Now, I'd like to turn the call over to David Morris. David?

Thank you, Catherine. Good day, everyone, and thank you for joining us today. Increasing rates continue to drive performance to record levels in the third quarter with net income of $16.7 million and earnings per share of $0.87. Net interest income increased to a record $37 million as loans grew and margins improved. Third quarter non-interest income decreased by $887,000 from the previous quarter, due primarily to the second quarter gain of $757,000 on a corporate real estate asset that we sold. As expected, non-interest expense decreased from last quarter primarily due to the $1.2 million decrease in expenses related to the substantially completed Board of Directors investigation. I hope to be able to announce the conclusion and findings of the investigation during the fourth quarter. Net interest margin continued to increase during the quarter from 4.08% in the second quarter to 4.31% in the third quarter, and 3.38% a year ago. We are cautiously optimistic that we'll be able to maintain an elevated NIM in the quarters to come as we anticipate that asset yields will continue to increase more quickly than deposit costs. Annualized ROA and ROTCE increased in the third quarter to 1.72% and 16.58%, respectively. Return on equity, which excludes the impact of AOCI, also increased to 13.93% from 13.3% in the second quarter and 13.52% last year. Net loans held for investments increased by about $173 million to $3.2 billion in the third quarter, with CRE and residential mortgages showing good growth and C&I construction and other loans all decreasing from the last quarter. Our yield on average earnings assets increased to 5.13%, which was a 47 basis point increase from the last quarter and a 116 basis point increase from the prior year. With respect to funding, commercial customer activity drove an $118 million decrease in average non-interest bearing deposits over the quarter. Our average cost of interest-bearing deposits for the quarter was 0.82%, which was up 33 basis points from the prior quarter. As I mentioned last quarter, the increase was expected and is most likely to continue for the next few quarters. We continue to be below our competitors on deposit pricing, but it has been forced to increase rates to retain deposits. Nonperforming loans decreased to $11.5 million from $13.9 million last quarter. Last 30 to 89 days delinquent increased to $39.9 million in the third quarter compared to $8.3 million in the second quarter. The increase was due in part to two loans, one was a construction loan up $11.3 million on a project that is substantially complete that was delinquent for 52 days due to administrative delays in processing an extension, and one was a commercial real estate loan of $8.8 million that was also delinquent for 52 days due to similar delays. All the extensions were planned well in advance but unfortunately could not be completed on schedule and so led to the increase in delinquent loans. As of October 21, loans that differed to 89 days delinquent have decreased to $14.5 million. So while the September 30th numbers look alarming, we do not think it is a sign of deteriorating credit. We took a provision for credit losses of $1.8 million in the third quarter, primarily attributable to loan growth. Capital levels remain strong with all of our capital ratios well above regulatory minimums. We continued to repurchase shares in the third quarter with 95,000 shares repurchased at an average price of $20.93. We have 482,000 shares left on the buyback and intend to continue to utilize it as appropriate. With that, we are happy to take your questions. Operator, please open up the call.

Our first question comes from Kelly Motta with KBW.

I think maybe starting with the early stage delinquencies and the process delays that you cited. David, your expenses are lower too. Do you have all the people you need in place to run the operations? Are you with the delays? Do you have the capacity to support the business or are there places that you're adding people just to try to close the loop there?

We have plenty of staff in our credit department to do this. These delays are sometimes out of our control due to our client base and their travel schedules to Asia. So sometimes we have this from time to time where things go delinquent, because of that. I announced that we are looking for a controller in the county area, because I expect Shalom will take over the role of Chief Financial Officer at some point in time in the next few months. So the Chief Accounting Officer position is a stepping stone for him. And I will be relinquishing that title at that time. I also said in our press release that we are looking for a president that will come in to be the face of the bank to our local community. And I will still drive strategy and I will still be the Chief Executive Officer managing the whole organization in total.

And I importantly forgot to congratulate you on your title officially, David. So congratulations on the new role. I know you've been doing it for a while. The loan growth has been really strong. It looks like there was a lot of that was single-family residential. Wondering if there was any portion that was purchased at all, if it was the Fannie Mae or non-QM, and just kind of any outlook for single-family as well as overall kind of loan growth outlook?

Fannie Mae is nearing zero production, which means most of our production is non-QM. Our pricing for that product is nearing 7% and will likely exceed 7% soon. We have noticed some recovery, but it's not significant. We were averaging around $40 million a month, but that has dropped to about $35 million. In terms of commercial concerns, we have some large loans and construction loans coming due in the fourth quarter, making it challenging to maintain the same growth we experienced in the third quarter.

Got it. Understood. Maybe last question from me is on the deposit, you had the decline in non-interest bearing, but increases in your interest-bearing deposit. Wondering if there was any migration between line items and just kind of overall outlook for funding your growth, whether you are going to be tapping more wholesale sources and just any sort of outlook on that?

I prefer to fund our loans through our customer base occasionally due to liquidity needs, although we also utilize outside broker deposits. I notice that wealthy individuals, if not reserving their money for investments in assets like real estate, are currently shifting into two-year treasuries because of current rates. Many are gradually moving some of their deposits into money markets or CDs. Our main concern is one customer involved in crypto trading, who, despite having strong financials, has seen their volume decline significantly due to the crypto winter. Their business has decreased from $300 million to about $100 million in demand deposits and non-interest bearing accounts. This is a notable issue for us as it pertains to that single customer.

Got it. I will step back and let others ask questions. Thank you so much for the time, David, and congratulations again.

We'll now take questions from Nick Cucharale with Piper Sandler. Your line is open. Please proceed.

Good day, David, and I will echo the congratulations as well.

Thank you, Nick.

I just wanted to make sure I heard your NIM commentary correctly. Are you expecting further expansion in the fourth quarter or are you anticipating the pickup in liability costs that there will be some compression here?

I don't believe the fourth quarter will present significant growth in net interest margin. While I do expect continued expansion, as we reach the end of this period and more certificates of deposit reprice along with a transition away from noninterest-bearing accounts, the net interest margin will likely stabilize. Eventually, as rates start to decrease, we will experience compression.

Okay. Can you update us on your expectations for the gain on sale, but as you mentioned close to zero production on the Fannie side, do you expect that to pick up in the coming quarters? And then if you could touch on the SBA front, especially in light of the lower premiums seen there?

I do not expect Fannie Mae to return until we see pricing drop back to the 4% range. We are working on selling our non-QM product next year and trying to persuade Fannie Mae's regulators that their box sales benefit minority depository institutions. Currently, I anticipate our gain on sale will remain steady for the fourth quarter. While we have a few more SBA 7A loans to sell, the rest of that business has slowed down significantly as we enter a recession and interest rates are peaking, which we hope will change in the next month or two.

Do you have an updated timeframe for the closing of the gateway deal?

It will be next year. I don't have the exact date, but we're still in a deal.

And then lastly, how are you thinking about repurchase? So it looks like it's slow this period relative to the second quarter, yet the average price was relatively similar. Is this just a desire to keep more dry powder for loan growth or how are you thinking about that?

We are still active in the market, but we closely monitor our stock price and trading volume daily. We were present in the market for most of September and all of October, and our activity was primarily limited by the volume.

Our next question comes from Ben Gerlinger with Hovde Group.

Congratulations on the permanent job role title. I'm curious, if we go back just a little bit on the kind of the inner workings and the thought process behind it. I'm sure there's a lot of different avenues that you guys could have taken, use someone outside or potentially sell the bank. And then when you just read about entering a recession, you guys also have quite a few openings or some musical chairs that have to be played with positioning and behind the scenes efforts before you can kind of fully play 100% offense. I'm curious what the appetite is towards overall continuity as an individual firm and another gateway, still pending. But was there ever a thought process of partnering with somebody larger?

We continuously evaluate whether it is the right time to consider a merger. The board meets biannually and consults with bankers to understand market conditions. I also have monthly discussions with bankers about these matters. If there are any significant changes, I will inform Dr. Kao and the rest of the Executive Committee.

And then finally in terms of expenses, I know you still said you have the larger positions that still need to be placed. Thinking about just kind of the boots on the ground blocking and tackling type blunders, most people. Once everybody's in place, do you think that expense base changes in any meaningful manner? Are we just talking more kind of title changes from what it currently is for the past quarter or two?

Clearly, the President will be hired from outside the bank. So you would have had a President's salary; however, there may be other salary eliminations that I can't really speak about to help fund that.

Next question comes from Tim Coffey with Janney.

My questions are kind of on the loan to deposit ratio. Do you have a goal to target for that ratio over the next four quarters or five quarters?

I think due to the developments in the market, loan growth will likely slow, and we are starting to see some signs of that. Typically, we maintain a loan to deposit ratio above 100%, but I anticipate we'll be between 100 and 105 instead of our usual range of 105 to 110.

It appears you have significant capacity for additional borrowing. While it may not be the most cost-effective funding source at the moment, you could increase your borrowing if there's growth in loans. Regarding loan growth, considering the downward trend in commercial real estate you're anticipating from the payoffs, which tend to involve larger loan amounts, could loan growth be minimal in the upcoming quarter?

No, I still think we will have, when we say de minimis, I'm thinking about $10 million or something like that. I think we will still have above a $50 million quarter, so overall between the two.

Your next question comes from Andrew Terrell with Stephens. Your line is open. Please go ahead.

Hey, good morning. I want to echo what others have said, congratulations David on the title.

Yes. Thank you.

Just to start on the margin, can you remind us just of the CD portfolio, what you have repricing in the fourth quarter on a scheduled basis? And then what the roll-on, roll-off dynamics look like from a cost standpoint?

Okay. So quarter three and four shows that really can't be correct.

I can kind of follow-up, if that's easier.

Okay. I see that there would be about $200 million that will be repricing in the fourth quarter.

Okay. And kind of new CD rate, are you offering in the market right now? I know you have been able to kind of lag competitors, but curious where new CDs are pricing at for you guys?

We are close to 3%. Some of our competitors are at 3.50%.

Would you anticipate if we get incremental rate increases here in the fourth quarter, you are going to raise that 3% rate?

I believe it will have to be tough to do it. Again, like I said, we have people, we have competitors that are over 3.50, people have 3.75. We have competitors that will give their VIP customers 3.25, 3.50, like that. Most people are projecting a Fed fund rate of between 4% and 4.50%, although I've seen projections as high as 6% on the Fed fund rate. If we go to 6%, I think that will be catastrophic for both loans and deposits. Catastrophic may be too tough of a word, but I think it will be very concerning.

Okay. Understood. And if I look at your kind of deposit cost increased this quarter, interest-bearing deposit costs up 33 basis points. My math gets you to kind of a mid-20 percent interest-bearing deposit beta? Can you just remind us kind of your expectations through the cycle for deposit betas?

I think you are going to see deposit betas closer to 50 this quarter.

Okay. And then just maybe stepping back kind of a bigger picture question with the announcement regarding the CEO. I know you mentioned earlier in the call, kind of your focus full-time on strategy at the organization holistically going forward. Just hoping you could maybe paint a picture of as we look out over kind of the next 3 to 5 years. What does the strategy look like for RBB? Has anything materially changed versus previously? And then kind of where are you most focused on over the next several years as you think about kind of organically or inorganically growing the franchise?

Number one is, I think we will continue our growth strategy that we have had. For example, we will complete our Gateway acquisition, then we will concentrate on growing in the areas that we have either through end-market acquisitions or just de novo growth in the near term. However, like I said, prior, we're always looking for other opportunities and if something comes up, we will do that.

If I could just take one more, do you have the balance of how much you have outstanding in SNIC credits?

It’s not what is credit?

I think actually we do not take new credit. At this moment our credit is somewhere about $20 million to $25 million.

We'll move next to Jordan Hymowitz with Philadelphia Financial. I apologize for the last question. We'll go to Kelly Motta again with KBW.

I'm going to step back, my question was answered in further Q&A. Appreciate it though.

Once again, thank you all for joining us today. We look forward to speaking to many of you in the coming days and weeks. Have a great day. Thanks.

And ladies and gentlemen, that will conclude today's conference. We thank you for your participation. You may disconnect your phone line at this time.