Evans Bancorp Inc

AMEX:EVBN

Earnings Call Analysis

Earnings Call Transcript 2024-Q2

[Operator]

Ladies and gentlemen, greetings, and welcome to the Evans Bancorp Second Quarter 2024 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Craig Mychajluk, Investor Relations for Evans. Please go ahead.

[Craig Mychajluk]

Thank you, and good afternoon, everyone. We certainly appreciate you taking the time today to join us as well as your interest in Evans Bancorp. On the call, I have with me David Nasca, our President and CEO; and John Connerton, our Chief Financial Officer. Dave and John are going to review our results for the second quarter of 2024 and provide an update on the company's strategic progress and outlook. After that, we'll open the call for questions. You should have a copy of the financial results that were released today after markets closed. If not, you can access them on our website at evansbank.com.

As you are aware, we may make some forward-looking statements during the formal discussion as well as during the Q&A. These statements apply to future events that are subject to risks and uncertainties as well as other factors that could cause actual results to differ from what is stated on today's call. These risks and uncertainties and other factors are provided in the earnings release as well as with other documents filed by the company with the Securities and Exchange Commission. Please find those documents on our website or at sec.gov.

So with that, let me turn it over to David to begin. David?

[David Nasca, executive]

Thank you, Craig. Good afternoon, everyone. We appreciate you joining us today. I'll start with a review of the highlights from the recent quarter, and will then hand it off to John to discuss our results in detail. Despite a dynamic interest rate environment, we delivered strong performance, continuing to push forward to return to historic levels of profitability as the balance sheet grows out of lower-yielding rates on investments and loans originated in the recent periods. We achieved growth in our core banking operations and saw notable increases in our lending portfolio. This growth, combined with a stable deposit base and balance sheet optimization efforts in the first quarter resulted in a net interest margin that exceeded our expectations. Additionally, disciplined expense management contributed to the 26% increase in net income on a sequential basis.

I'd like to highlight a few key achievements this quarter. Our consumer business banking and commercial teams drove strong loan production as they continue to build a diverse pipeline of high-quality loans even in a difficult rate environment. In particular, commercial loan production has trended favorably for the first half of the year, producing $44 million in originations, predominantly in commercial and industrial loans, and with a $137 million pipeline in place, we anticipate mid-single-digit growth for the full year. Our success in this area can be attributed to consistent customer service, enhanced cash management focus, new products and targeted marketing efforts. Investments in our teams have also contributed with the additional hires of 2 C&I relationship managers in Rochester, fully staffing our commercial relationship group there.

Our deposit gathering efforts have been solid over the first half of the year with gains in both retail and commercial businesses. This success is a direct result of a comprehensive approach to our customers and a commitment to providing innovative banking solutions that meet the evolving needs of our existing clients and target a new generation of customers. Leveraging technology and process improvements to drive operational efficiencies and reduce costs across the organization remains a top priority. These efforts have driven gains in client engagement and operational efficiencies. As an example, during the first half of the year, we successfully launched electronic signature pads in all our branches providing a fully electronic account opening experience. This initiative aimed at a better customer experience has improved data integrity and account opening speed, reduced paper consumption and increased overall efficiency.

Our commitment to community banking remains steadfast. We've deepened relationships within the communities we serve through initiatives that support local businesses, philanthropic actions and targeted programs and partnerships. These efforts foster local development and economic growth. Notably, this year, we committed to the Regional Revitalization Partnership or RRP, a $300 million multiyear collaborative between New York State local municipalities and private philanthropic and business partners. The RRP aims to revitalize economically distressed neighborhoods in Rochester, Buffalo and Niagara Falls by driving economic development through private and public partnerships in philanthropy. This initiative called East Side Avenues is a recommitment to an expanded effort begun several years ago in a number of underinvested areas in East Buffalo, which the bank previously supported.

Looking ahead, we remain cautiously optimistic about the remainder of the year. We do not see credit issues percolating in the portfolio and growth prospects appear positive. While recognizing the challenges posted or posed by the current economic environment, we are confident in our ability to deliver performance against these headwinds. Our focus will be on executing our strategic priorities, which include customer acquisition and relationship management to drive loan and deposit growth. Equally important is improving the client experience, optimizing operational efficiency and diligently managing expenses. By prioritizing these areas, we aim to ensure sustainable returns and deliver long-term value for our shareholders, clients and communities.

With that, I'll turn it over to John to run through our specific results in greater detail, and then we will be happy to take any questions. John?

[John Connerton, executive]

Thank you, David, and good afternoon, everyone. As a reminder, the 2023 comparative period includes business activity relating to the Evans Agency or TEA. We completed the sale of that business to Arthur J. Gallagher & Company on November 30, 2023. For the recent quarter, we delivered earnings of $2.9 million or $0.53 per diluted share, which on a sequential basis was up 26% from $0.42 per share. This growth was largely driven by higher net interest income and lower noninterest expenses. When compared with last year's second quarter earnings of $4.9 million, the primary drivers of the year-over-year change were lower net interest income, and the impact of the TEA sale.

Net interest income of $14.3 million was an increase of $0.4 million from the linked first quarter due to higher average loans and our actions to strengthen the balance sheet at the end of the first quarter. Year-over-year, the change in net interest income reflected higher interest expense given competitive pressure on deposit pricing, which accelerated for most of 2023. Second quarter net interest margin came in at 2.71%, down 8 basis points from the linked quarter. While there was some margin contraction, it was favorable to our expectations as we benefited from a strategic focus on optimizing asset mix. I will talk to our NIM expectations at the end of my remarks.

The $297,000 provision for credit losses in the recent quarter was due to growth as well as slower prepayment rates, partially offset by improving economic factors. Total noninterest income was up $134,000 from the sequential quarter, driven by higher loan production and resulting fees as well as improved performance in our wealth management services. That fee income is currently embedded in the insurance service and fee revenue line. The sale of TEA is reflected in the year-over-year decrease in that line item as well. The decrease in noninterest expenses from the first quarter of 2024 was largely due to lower salaries and employee benefits, which were down 6%. While we have been managing expenses well, the linked quarter did reflect higher seasonal costs, which included the annual resets on FICO and unemployment insurance and the annual payment into our HSA accounts.

Once again, the sale of TEA was the driver of the year-over-year change as noninterest expenses decreased $1.6 million. Our expectation for the bank-only 2024 year expense excluding TEA's 2023 expenses is a decrease between 1% and 2%. Total deposits were flat at the end of the linked quarter, though on a year-to-date basis, increased $173 million or 10%. As we previously disclosed, we strategically strengthened our balance sheet during the first quarter, adding $55 million of broker deposits at favorable rates, also reflected in the increase were seasonal inflows of municipal deposits. From a product perspective, we saw increases across each major deposit category with support from both retail and commercial deposits.

Total loans were up 2.5% in the quarter as net commercial originations were $85.3 million compared with $36.3 million of net originations in the first quarter. We continue to be selective in underwriting decisions but are finding high-quality borrowers with opportunities in both CRE and C&I. The mix of growth was weighted towards C&I in the quarter, and we are seeing some increases in line usage following a number of quarters of muted performance. Total loans were up $94 million or 6% year-over-year, with CRE being up $60 million in C&I, up $28 million.

As David indicated, the current pipeline is strong and stands at $137 million at quarter end. We expect our current liquidity position to be the foundation that supports expected commercial loan growth of mid-single digits in 2024. We continue to maintain a disciplined approach to credit risk management. While we did see a sequential decline in nonperforming loans, this was due to a classification change for one loan that was moved to ORE. On the plus side, this was a sound property, and we have a signed purchase agreement in place with a high-quality borrower with no losses expected once the deal closes.

Criticized loans were $68 million at quarter end compared with $70 million at the end of the first quarter. We have been successful in managing our deposit pricing strategy to include balancing liquidity with profitability and are confident in our ability to continue to navigate the evolving market dynamics. While the cost of funding continues to rise, we see that the rate of increase decelerating rapidly in some instances, competition lowering rates, which provides a stabilizing NIM outlook.

For the third quarter, we expect modest increases in costs as clients continue to move balances from transactional accounts to interest-bearing accounts and the CD portfolio continues to reprice. Given those impacts, we anticipate our NIM to come down a few basis points to approximately 2.68% in the third quarter of 2024. As funding costs continue to stabilize, we anticipate third quarter to be the low point in this cycle and see the margins start to improve slowly in the fourth quarter and next year.

With that, operator, we would now like to open the line for questions.

[Operator]

[Operator Instructions] Our first question is from the line of Christopher O'Connell with KBW.

[Christopher O'Connell, analyst]

So great loan growth this quarter and nice rebound and on track for the mid-single-digit growth. Can you go through the origination yields that you're seeing nowadays in the commercial book?

[John Connerton, executive]

Yes. I think our -- kind of our offering rates, depending on the type, lines are going for prime plus. And then longer-term commercial and commercial real estate are going somewhere in the 7.5% and above.

[Christopher O'Connell, analyst]

Got it. And -- as far as the overall portfolio, just remind us how much of it is repricing with short-term rates and then how much of the portfolio is set to reprice or mature in the back half of the year?

[John Connerton, executive]

So the variable rate portfolio is around $300 million. And as far -- of course, I'd have to get that number for the final 6 months of what the maturities or what the repricing would be. So I'll have to get back, yes.

[Christopher O'Connell, analyst]

Got it. No problem. And then on the muni seasonality, it seemed to hold up a little bit better into this quarter. How are you thinking about the seasonality in the final 2 quarters of the year?

[John Connerton, executive]

Yes. I think we're higher because we've garnered some new customers. But the seasonality, just as far as from a graphical perspective, we don't expect any difference in that. Our low point will be September before it again goes up and then it will be, again, a low point -- very lowest point in the year is December. So we expect traditional seasonality, but maybe at a slightly elevated level.

[David Nasca, executive]

Yes, they'll spend into September. And then in October, the bills go out and you start repopulating the balances.

[Christopher O'Connell, analyst]

Okay. Great. And then on the CD -- or on the deposit side, the CD costs, it seems like are starting to come up towards market rate levels. I mean what are you guys generally offering on the CD book currently? And have you tested the waters at all on kind of bringing that down from the highs?

[John Connerton, executive]

Yes. I think probably last quarter, we were -- and the market was 5% and above. We're still getting some outside competition that's doing that in some avenues. But we're -- ourselves, we're at around 4.5%. Seems to be competitive, and we're holding that liquidity with that.

[Christopher O'Connell, analyst]

Got it. So is most of like the remaining pricing, I guess, on the funding side just from the lingering commercial customers, kind of more one-off rates than the broader book?

[John Connerton, executive]

Yes. And I think we've seen that plateau out, but we -- there will be some impact from what kind of repriced in the second quarter and then there still is a little bit of that happening in the third quarter, obviously, not anticipating any Fed movement, which might certainly improve that. Because we want -- that will probably move the competition down.

But our expectations don't -- we don't consider any Fed movement. That's our NIM expectations are just our current trends in our pricing and what we're seeing our customers do, their behavior. And to your point, their behavior is we're seeing less repricing of our current savings and transactional accounts are now accounts than we have in the past. So that's why we're indicating that it's going to be this kind of a low point in the third quarter.

[David Nasca, executive]

On top of which, we've had growth across all segments. So there has been commercial checking, there's been retail checking. We're seeing not just CD growth here.

[Christopher O'Connell, analyst]

Great. And as you guys are looking in towards the back half of the year, and we potentially get closer to some Fed funds cuts. How are you thinking about how the NIM will react either to a single 25 basis point Fed funds cut or just in general, the cadence on a down cycle in rates there?

[John Connerton, executive]

Just the math on our balance sheet, Chris, is it should be -- 25 basis points should be down. How the market reacts in the pressure -- and the pressure directionally it puts on the local market pricing, it's probably a bigger unknown. So if that is more of a positive and we get some traction on ability to price down some of our CD pricing and some of our savings that would be helpful. But just our expectation, even 25 basis points should be more neutral than positive or negative.

[Christopher O'Connell, analyst]

Got it. And that's the short end, right not the...

[John Connerton, executive]

Yes. Yes.

[David Nasca, executive]

Yes, the short end. And you also have 2 fairly large competitors here, the 2 regional banks that control the market. So as John said, the vagaries of how they price are going to impact what we do. But generally, they'll hopefully be a little conservative if rates go down, but it's not going to have a monumental impact.

[Christopher O'Connell, analyst]

Great. And then the fees have come in a little stronger in the past couple of quarters. I think specifically on the other fee line, is that anything MSR related or anything in there that has been holding that up? Or is that a pretty good run rate to go forward with?

[John Connerton, executive]

No other can be a little clunky. It's probably is slightly elevated, but not by a significant amount. There's a lot of different -- it's a true other. There's a lot of things that can pop up and move it around. Loan fees are in there. But it's probably slightly elevated, but not by a significant...

[Christopher O'Connell, analyst]

Great. And then on the expense side, I mean, a very good quarter and a great job bringing everything down this quarter. Based on the guide, is it right to read a little bit more investments in the back half of the year? And just any color on kind of what you guys have planned either on the technology side or personnel in terms of investments going forward?

[David Nasca, executive]

I think a couple of things. I think we have made investments, obviously, in people. I think the back half of the year, we look to maintain our staffing, there's still some change going on. But I don't think there's a lot more investment in lending teams, as I mentioned. In terms of technology, we've been investing all along to try to get efficiencies, but that should eventually be to our benefit in terms of expenses, not our detriment, and we have made the heavy investments here. We're trying to reap some of the benefits of the efficiencies here going into the back half of the year and into next year.

[Christopher O'Connell, analyst]

Great. And then on the credit side, any additional color that you can provide on the OREO that is set to sell at no loss, but just what type of loan or anything about the situation or what happened there?

[John Connerton, executive]

Yes. I mean it's been -- it's one of the larger loans that have been in nonperforming for a period of time. It's one of really a good property that just never got the operators needed to get changed out. It was a hotel. And we got some really good operators going in there with some good backing and some good wherewithal so -- and the property itself has turned around and starting to perform. So the new owners are excited to be in there, and we're excited to have them.

[Christopher O'Connell, analyst]

Got it. And so -- so did that whole 6.9 balance come out of NPLs this quarter?

[John Connerton, executive]

It did. It did. So you don't see a direct reduction in it because you'll see when our Q comes out, we do have a couple of 90 days and still accruing that are just having delays in getting to close. And so I would suggest that it's not an increase in NPLs, but by classification, those 90-plus and accruing go into that number. Otherwise, we'd be flat.

[Christopher O'Connell, analyst]

Yes. And anything else that you're seeing of concern at all within -- from the credit perspective on the book into the back half of the year here?

[John Connerton, executive]

Nothing that we're seeing. We're being diligent in looking at all of our credits that are coming up to refinance. We're looking out ahead seeing what those businesses look like at the newer rates. And we run those numbers, and we haven't really seen any deterioration in those debt service coverages at new rates. And we haven't really seen any delinquencies that have increased. It's pretty much working on the stuff that we do have in our NPLs, such as the ORE that we're talking about and getting those to better performing. Otherwise, we haven't seen any negative trends.

[Christopher O'Connell, analyst]

Got it. Helpful. And then last for me is just what's a good go-forward tax rate?

[John Connerton, executive]

22.5% is a good go-forward tax rate.

[Christopher O'Connell, analyst]

Great. Appreciate the time. Nice quarter.

[Operator]

[Operator Instructions] As there are no further questions, I now hand the conference over to David Nasca for closing comments. David?

[David Nasca, executive]

Thank you. And thank you all for participating in the teleconference today. We certainly appreciate your continued interest and support. Please feel free to reach out to us at any time. We look forward to talking with all of you again when we report our third quarter 2024 results. Hope you have a great day, and thanks again for your interest.

[Operator]

Thank you. The conference of Evans Bancorp has now concluded. Thank you for your participation. You may now disconnect your lines.