Bridgewater Bancshares Inc

NASDAQ:BWB

Earnings Call Analysis

Earnings Call Transcript 2024-Q2

[Operator]

Good morning, and welcome to the Bridgewater Bancshares 2024 Second Quarter Earnings Call. My name is Cole, and I will be your conference operator today. All participants have been placed in a listen-only mode. After Bridgewater's opening remarks, there will be a question-and-answer session. [Operator Instructions] Please note that today's call is being recorded.



At this time, I would like to introduce Justin Horstman, Vice President of Investor Relations, to begin the conference call. Please go ahead, sir.

[Justin Horstman, executive]

Thank you, Cole, and good morning, everyone. Joining me on today's call are Jerry Baack, Chairman and Chief Executive Officer; Joe Chybowski, President and Chief Financial Officer; and Nick Place, Chief Lending Officer.





In just a few moments, we will provide an overview of our 2024 second quarter financial results. We will be referencing a slide presentation that is available on the Investor Relations section of Bridgewater's website, investors.bridgewaterbankmn.com. Following our opening remarks, we'll open it up for questions.



During today's presentation, we may make projections or other forward-looking statements regarding future events or the future financial performance of the company. We caution that such statements are predictions and that actual results may differ materially. Please see the forward-looking statement disclosure in the slide presentation and our 2024 second quarter earnings release for more information about risks and uncertainties, which may affect us. The information we will provide today is as of and for the quarter ended June 30, 2024, and we undertake no duty to update the information.



We may also disclose non-GAAP financial measures during this call. We believe certain non-GAAP financial measures, in addition to the related GAAP measures, provide meaningful information to investors to help them understand the company's operating performance and trends and to facilitate comparisons with the performance of our peers. We caution that these disclosures should not be viewed as a substitute for operating results determined in accordance with GAAP. Please see our slide presentation and 2024 second quarter earnings release for reconciliations of non-GAAP disclosures to the comparable GAAP measures.



I would now like to turn the call over to Bridgewater's Chairman and CEO, Jerry Baack.

[Gerald Baack, executive]

Thank you, Justin, and thank you, everyone, for joining us today. I'm pleased to share our second quarter results, which showed a stabilized net interest margin, a return to revenue growth and continued superb asset quality. After seeing the pace of margin compression steadily slow over the past few quarters, we saw it hold steady in the second quarter. When coupled with average earning asset growth, we were able to drive net interest income and overall revenue growth for the first time since the third quarter of 2022 resulting in stabilization across our profitability metrics.



As we have said in the past, Bridgewater is well positioned to benefit from future interest rate cuts and a normalizing yield curve. Reaching a point of margin and overall profitability stabilization bodes well for us. Especially as we witness more encouraging macro data, including the continued slowing of inflation. After strong balance sheet growth in the first quarter, loan and deposit growth were more muted in the second quarter.



Loan growth was impacted by higher levels of payoffs, while deposit growth continued to be chunky given the nature of the deposit base. As expected on a year-to-date basis, loan and deposit growth were still in the low to mid-single-digit range. The team continues to participate in good conversations with new and existing clients, keeping us abreast of market opportunities.

Asset quality continued to be very strong in the second quarter with no net charge-offs and very low levels of non-performing assets. Our consisting underwriting standards, active credit oversight and experienced lending and credit teams have always been differentiators for us. And we are seeing the discipline payoff in the current environment, while CRE and multifamily continue to be a focus across the industry and for us given our high concentrations, we've been pleased with how these portfolios have performed.



Nick will provide more insight into these portfolios, and what we are seeing across the Twin Cities later in the presentation. In the meantime, I think it is worth reminding everyone that our teams are exceptionally talented at making CRE and multifamily loans. We have a lot of experience and expertise in the Twin Cities, which is why we are so comfortable with our current loan mix.



Finally, this marks the 30th consecutive quarter of tangible book value per share growth, up 9.8% annualized from the first quarter. On Slide 4, you can see our tangible book value is up nearly 200% during those 30 quarters compared to sub-70% median for banks with $3 billion to $10 billion in assets. We continue to believe this is a true differentiator for Bridgewater and how we will provide shareholder value going forward.



Before I turn it over to Joe, I want to highlight a few other things we've been working on. On the client front, as part of our commitment to win, retain and grow our network, we launched a new CRM platform. This will be a game changer for us in terms of how we interact with clients, while also enhancing efficiencies across the bank. Our product team is also working diligently on a new online banking solution for our retail and small business clients, ultimately enhancing the overall user experience. More to come in future updates on this client-centric initiative.



Finally, our culture has always been something we take very seriously. And so we're thrilled to be recognized as a top workplace by the Star Tribune for the fifth year in a row. This further demonstrates how our unconventional corporate culture is appreciated by our diverse employee base and ultimately allowing us to attract and retain top talent. We happen to be unconventional with an inclusive and empowering culture.



Just a few weeks ago, we hosted an all team happy hour capped off with a meat raffle. All proceeds went to support local charity it's activities like this that bring our team together and encourage collaboration at every junction. We truly have a great team.



I'll now turn it over to Joe, who in addition to being our Chief Financial Officer, he recently elevated to the role of President. Joe is well suited for this role and we are excited about what Joe can bring in this capacity. Joe?

[Joseph Chybowski, executive]

Thank you, Jerry. I'm really excited about the new role and it's been great to collaborate with the team so far. Turning to Slide 5, you can see the net interest margin held flat at 2.24%. The stabilization during the quarter was driven by a more meaningful increase in the portfolio loan yield, which offset continued deposit pricing pressures. As we mentioned last quarter, we felt like we are reaching an inflection point on net interest income given the stronger balance sheet growth even if the margin compressed a bit further.



As it turned out, balance sheet growth was a bit weaker than expected in the second quarter but the margin was stronger, ultimately still driving that net interest income inflection up 1.5%. This was also supported by higher loan fees, as we saw an uptick in loan payoffs.



Slide 6, provides more visibility into the trends of the margin components. The portfolio loan yield increased 12 basis points in the second quarter to 5.50%. While we expect the loan portfolio to continue repricing higher, even a lower rate environment, the pace of the increase may vary based on the loan yields coming off -- coming on and off the balance sheet in a given quarter. During the second quarter, the weighted average yield on new loan originations was in the low 7%, while loans paying off were in the low 6%.



The securities portfolio is also supporting our overall asset yields and securities yields increased another 14 basis points to 4.94%. Note that our period-end securities balances declined in the second quarter following a security sale. While asset yields have picked up, deposit costs have continued to increase, up 14 basis points in the second quarter. This continues to be due to elevated competition and overall mix shifts within the portfolio. We would expect to see additional deposit pricing pressures albeit at a slower pace until we start to see some relief on rates.



As Jerry mentioned, our balance sheet remains well positioned for a rates-down environment and a more normalized yield curve. We have over $1 billion of adjustable funding tied to short-term rates and a loan portfolio that is positioned to continue repricing higher even in a lower rate environment. While the potential for rate cuts appears more likely today than it did three months ago, we would still expect net interest margin to remain relatively stable near current levels in the near term, with expansion coming after we see potential rate cuts take effect.



Turning to Slide 7, we saw quarter-over-quarter revenue growth for the first time in nearly 2 years, driven by higher net interest income. As a result, ROA and pre-provision ROA both stabilized while ROTCE increased by 16 basis points. Non-interest income grew during the second quarter, primarily due to a $320,000 gain on the sale of securities. However, total revenue would have grown even when excluding the securities gain.



Turning to Slide 8, our ability to manage expenses, while making investments in the business continues to be a real strength of the organization. Expenses so far in 2024 have tracked in line with what we expected. After a 3.5% decrease in expenses in the first quarter which is typically our low point, we saw a 2% increase in the second quarter. The increase was primarily due to higher salary and employee benefits, technology and occupancy expenses, partially offset by lower FDIC expense.



The trajectory is similar to what we saw in 2023, and we would expect that to continue with expenses increasing throughout the back half of the year. Overall, we would expect full year expense growth to remain relatively in line with asset growth in 2024.



With that, I'll turn it over to Nick.

[Nicholas Place, executive]

Thanks, Joe. Turning to Slide 9, total deposit balances were relatively flat in the second quarter with core deposits down $53 million. As we've always said our core deposit growth tends not to be linear due to the nature of our client base which includes higher-balance client relationships, longer acquisition and onboarding times, and timing of larger inflows and outflows. In addition, the second quarter tends to be seasonally lower for deposits due to tax season and industry cyclicality. It's not unusual for us to see larger inflows and outflows from quarter to quarter. For example, we generated $90 million of core deposit growth in the first quarter. On a year-to-date basis, total deposits are up 5.3% annualized, while core deposits are up 3% both in line with the 4.1% loan growth we have generated so far this year.



We also continue to see various deposit mix changes specifically as we leverage more broker deposits to supplement core deposit growth during the second quarter. On the other hand, we are pleased to see noninterest-bearing deposits grow at a nearly 4% annualized pace. These deposit mix changes have contributed to funding costs continuing to slowly move higher. However, from a broader funding perspective, we have ample repricing opportunities even if rates move lower -- or if rates move lower. Overall, we feel good about our ability to drive core deposit growth and moderate deposit costs over time.



Turning to Slide 10, similar to deposit balances, annualized loan growth moderated a bit in the second quarter to 1.7% after stronger growth of 6.5% in the first quarter. Elevated payoffs, which increased nearly $50 million from last quarter contributed to the slower growth. On a year-to-date basis loan balances were up 4.1% annualized, which is in line with our expectations. Also our loan to deposit ratio remains just under 100%, which is in the middle of our target range.



We are continuing to see good loan demand in the Twin Cities and are getting in front of strong deals. However, the continued high interest rate environment and challenged equity market has caused some borrowers to delay projects, while other deals just haven't penciled out. We still expect full year loan growth to be in the low to mid-single-digit range. However, we are expecting more robust payoff levels to continue into the back half of the year which will continue to be a headwind, while other factors, including overall demand, economic conditions and core deposit growth will influence the pace of loan growth.



Overall, we feel like we have the ability to turn on our loan growth engine when appropriate, but we are continuing to take a disciplined approach. That said, we've been active in adding new talent to our lending teams to support our long-term growth initiatives. You can see the increase in loan payoffs on Slide 11. While higher payoffs may limit our overall loan growth, there are potential benefits as well. For example, payoffs create liquidity that can, we can redeploy into higher yielding loans as the payoffs are generally rolling off below new production yields, as Joe mentioned earlier.



In addition, payoffs can generate loan fees, which support net interest income, which we saw here in the second quarter. New loan originations also continue to be strong, exceeding loan advances for the second consecutive quarter. We do not see any meaningful changes to the loan mix during the quarter. Construction and development balances continued to decline, as deals completed their construction phase, while growth came primarily in our C&I, CRE and multifamily portfolios.



Slide 12 shows how our loan portfolio is positioned to reprice higher even if rates decline. This is primarily due to our large fixed rate portfolio, which makes up 69% of total loans and our smaller variable rate portfolio, which makes up just 15% of loans. We have $633 million of fixed and adjustable rate loans maturing or repricing over the next 12-months with weighted average yields of 5.29% and 4.75%, respectively.



We would be able to redeploy these funds into loans with meaningfully higher yields even if we see rate cuts over the coming months. The repricing impact of our larger fixed and adjustable rate portfolios should outweigh the repricing of our smaller variable rate portfolios as rates come down.



Also, we have been diligent increasing loan floors on variable rate transactions with over 70% of our floors now being above 5%. This should provide loan yield support if we see a meaningful drop in rates. We are confident that our overall portfolio yields should only continue to rise even as rates come down.



Slide 13, highlights our multifamily and office portfolios. Over 90% of our multifamily loans are in the Twin Cities and we have only experienced $62,000 of net charge-offs in the portfolio, since we started the bank in 2005. The Twin Cities multifamily market has historically been a stable market with less volatility than some of the coastal and high-growth markets. While vacancies increased throughout 2023, we have seen signs of vacancy rates stabilizing and even starting to tick down a bit over the past few months. Couple this with absorption levels exceeding deliveries as new construction remains slow and you have a more favorable outlook for occupancy levels and rent growth in the Twin Cities.



We have been proactively testing covenants across our multifamily portfolio and have been very pleased with the results. For any issues that we have found, we have action plans in place, including principal curtailments, pledges of additional collateral or other risk mitigants. We continue to closely monitor the portfolio as the economic and interest rate environments remain challenging. However, we have been pleased with the performance to date and remain bullish on multifamily over the long term.



Looking at our non-owner occupied CRE office portfolio, our exposure remains quite limited at just 5% of loans. This includes only four loans located in central business districts totaling $35 million. As a reminder, in previous quarters, we placed one of these central business district office loans on watch and moved another to substandard, both due to potential lease rollover risk. We will continue to monitor these transactions closely given the headwinds facing this sector. That said we feel good about the office portfolio as a whole given the lower average loan amount, diversified client base and primarily Midwest suburban office exposure.



Turning to Slide 14, we continue to see strong performance across our entire loan portfolio as we had no net charge-offs again in the second quarter and non-performing assets were just 0.01% of assets. We remain well reserved at 1.37% of gross loans, which is well in excess of peer levels. Reserves included $600,000 of provision during the quarter which has generally been tied to loan growth. Overall, we continue to feel good about our loan portfolio. That said, as higher -- as this higher interest rate environment continues to put pressure on businesses, we still expect to see some credit normalization over time.



On Slide 15, you can see our watch and substandard loans, both of which remained at very low levels. We are pleased with the risk profile of the portfolio and believe it is well-positioned moving forward.



I'll now turn it back over to Joe.

[Joseph Chybowski, executive]

Thanks, Nick. Slide 16 highlights our strong capital ratios, which have continued to build including CET1, which increased from 9.21% to 9.41%. In addition, we repurchased nearly 253,000 shares during the second quarter at a weighted average price of $11.48 per share for a total of $2.9 million. We still have $15.3 million remaining under our current authorization. We will continue to evaluate future repurchases based on a variety of factors, including capital levels, growth opportunities and market conditions. Share repurchases are just one of our capital priorities. Our primary capital priority remains organic growth. Beyond that, we continue to review and monitor potential M&A opportunities.





Turning to Slide 17, I'll recap our near-term expectations. We expect full year loan growth to remain in the low to mid-single-digit range, although as Nick mentioned, anticipated higher levels of loan payoffs will likely be a headwind over the remainder of the year. We are pleased to see the margin stabilize in second quarter. We'd expect that stability to continue in the near term until we see some interest rate cuts and a normalized yield curve. While the loan book is repricing higher, there's still pressure on deposit costs. As we have mentioned, we are well-positioned to benefit as rates come down.



On the expense side, we expect full year noninterest expense in 2024 to track relatively in line with asset growth similar to prior years. This includes a similar trajectory throughout the year as we saw in 2023, with expenses starting out low in the first quarter and building in subsequent quarters. The provision expense will likely be tied to our pace of loan growth and the overall asset quality of the portfolio.



I'll now turn it over to Jerry.

[Gerald Baack, executive]

Thanks, Joe. Finishing up on Slide 18, I'll provide a quick update on our 2024 strategic priorities. First, as we look to optimize our balance sheet for longer-term growth, both loan and deposit growth are tracking as expected on a year-to-date basis. Second, we continue to focus on expanding our client base through additional affordable housing efforts, as well as hosting successful networking events at our corporate office for local women business leaders and entrepreneurs.



Third, we have continued to invest in the business, including the launch of our new CRM tool which is creating efficiencies in how we engage with our clients. Finally, our credit teams are working hard to monitor our loan portfolios, especially CRE and multifamily. This has been evident through our continued strong asset quality.



With that, we'll open it up for questions.

[Operator]

[Operator Instructions] And our first question today will come from Brendan Nosal with Hovde Group. Please go ahead.

[Brendan Nosal, analyst]

Hi. Good morning, guys. Maybe just to start-off here on credit. I mean, your asset quality remains completely pristine but we've been hearing that regulators are increasingly using tools at their disposal to increase individual capital requirements for CRE heavy banks. So, maybe just take us through your relationship with your regulators and their understanding of your business model, especially considering how clean credit has been for you historically?

[Gerald Baack, executive]

Hi, Brendan, it's Jerry. I mean, we've had basically the same platform since we started in 2005. We continue to have conversations with our regulators. They have continued to be comfortable with what our overall enterprise risk management system is and how we monitor our concentrations. And although our concentrations have come down, that is certainly not something that they've asked us to do. So, we continue to feel comfortable. We have another exam here in August and we, and our last exam, it was kind of business as usual. So, I don't expect anything different.

[Brendan Nosal, analyst]

Okay. That's great color. Thank you. And then maybe can you update us on your appetite to continue repurchasing shares just given the pricing has firmed up above tangible book [indiscernible]?

[Joseph Chybowski, executive]

Hi, Brendan, this is Joe. Yes, I think, it's like we always say, I mean, there's a variety of factors that we consider. Obviously, the share price being one of them, but I think in the context of everything else, whether it's future growth opportunities, the environment itself, we consider all of that. So I think we're really pleased and happy that we're as active as we were over the last three quarters, just given the blended costs that we were able to buy back shares at and then considering where the stock is today. But again we'll continue to evaluate that going forward, and that's kind of a fluid analysis.

[Brendan Nosal, analyst]

Yes, makes sense. All right, maybe one more for me before I step back. Really great to see the margin finally level out. Do you happen to have spot rates for both deposit costs and the margin at quarter end just to give us a sense of how trends played out across the quarter?

[Joseph Chybowski, executive]

Yes. So June was 2.20%. And then spot rates for deposits were 3.50%.

[Brendan Nosal, analyst]

Okay, perfect. Thank you for taking the questions.

[Operator]

And our next question will come from Jeff Rulis with D.A. Davidson. Please go ahead.

[Jeff Rulis, analyst]

Thanks. Good morning. I think you were cautious on the acceleration of loan yields, an encouraging stat, I wanted to kind of see, is that more timing than you think in terms of 12 basis points versus 5 basis points or kind of expectations for -- do you expect that to jump around, or do you think we could see further acceleration?

[Joseph Chybowski, executive]

Hi Jeff, this is Joe. Yes, so I think we had really strong growth in the back half of the first quarter really in March which I think really propelled the loan yield in the second quarter. So I think as we think about growth in the overall loan yield, it's obviously linked together. I think as Nick mentioned, on the payoff front, I mean, I think it's -- the payoff piece is certainly beneficial on one hand. It obviously allows us to recycle debt and really kind of roll off, yields are certainly less than where new money yields are coming on at. So it's definitely not only margin accretive, but certainly beneficial to the overall loan yield. So that's helpful.



So I think it's going to be growth-driven. And I think in prior quarters where the growth was not as strong as it was in first quarter, you saw 5 basis points to 7 basis points on a linked quarter basis. And so, I think given the strong growth in the first quarter, we do feel like that really propelled the loan yield in the second quarter.

[Jeff Rulis, analyst]

Got it. And then Nick sort of mentioned Q2 more of a headwind from business cyclicality from a deposit gathering. Now kind of through that and I know you're kind hugging that low mid-single-digit balance sheet growth, but do you feel better about deposit gathering in the second half of the year? Is that typically seasonality becomes a tailwind?

[Nicholas Place, executive]

Yes. Hi, this is Nick. Yes, we've seen deposit balances sort of rebuild back up here and that's -- it's not uncommon for us in Q2. It tends to be a low -- sort of low watermark for us in the deposit front just as taxes and other typical cyclicality of our business clients tends to -- we tend to see that in the second quarter. We feel really good about our traction that we've had on new client acquisitions. And really what we've seen in new hires this year and we've had some great treasury management hires and feel really good about the bankers that we brought on board. So that will pay dividends over the long-term and we're starting to see that drive some of our pipeline growth now. But yes, Q2 was a bit down for us and that's just not uncommon for us. We tend to have some chunky quarters. First quarter we saw really great both core and overall deposit growth. And then Q2, as we expected was a bit more muted. So, we expect those sort of inflows and outflows to continue over the long term.

[Jeff Rulis, analyst]

Thanks. And last one for me. I think you touched the buyback area pretty well. I guess just might as well check-in on M&A and thoughts about as the share prices run up here and conversations on that side interested in the recent updates.

[Nicholas Place, executive]

I can talk a bit about M&A, Jeff. We've similar to last quarter, last previous years actually, I mean we continue to have conversations with other local banks and those conversations have always went well. So it's really just staying in front of potential targets along the way. And it's -- I know across the country, things are heating up a little bit on the M&A front, at least that's what I get from the investment bankers, but I'd say in the Twin Cities, it's still a little slow, but we'll see.

[Jeff Rulis, analyst]

Got it. Thank you.

[Operator]

[Operator Instructions] Our next question will come from Nathan Race with Piper Sandler. Please go ahead.

[Nathan Race, analyst]

Good morning. Thanks for taking my questions.

[Gerald Baack, executive]

Hi, Nate.

[Nathan Race, analyst]

Just as we think about the potential increase in deposit costs in the third quarter, curious just in terms of the CDs that you have maturing in 3Q and 4Q, how that stacks up to kind of your replacement rates today?

[Joseph Chybowski, executive]

Hey, Nate, this is Joe. Yes, I definitely think we've seen an inflection point. I'd say over the last couple of quarters, we've really been mindful to kind of shortening up, the ultimate maturity of those CDs, in anticipation for potential rate cuts. So I think really we've seen inflection where the 12-month CD at 5.25% is now pricing in the low 5%s. And so, I think that while we had maybe a longer duration CD portfolio a couple of years ago, as that stuff rolls off and shortens up it certainly provides a lot of repricing opportunities and there's definitely inflection from that perspective.



I'd say the other thing too is just on the brokered front, we've really been able to put on longer-term CDs that have optionality in our ability to call those CDs. So, I think while it might feel like a longer term and certainly gets disclosed that way, there's definitely a lot of optionality from our perspective that allows us to call and reissue or supplement with core growth. So feel good about that time deposit portfolio and really hitting inflection point in terms of cost.

[Nathan Race, analyst]

Okay, great. And then I think we touched on earlier, but just in terms of the elevated payoffs in the quarter, curious if these are kind of as expected and if you have any kind of visibility into potential payoff levels over the course of 3Q and 4Q?

[Nicholas Place, executive]

It's Nick. Yes, I mean, we anticipated payoff picking up a little bit. I mean, we did see a drop in rates back end of last year, which allowed some transactions to work toward closing to refinance and those do take time, and we saw some of that stuff come together in the second quarter. We've seen some of those pullback in rates happen again here.



So, we're seeing our payout pipeline rebuild again. And a lot of it's stuff that we had originated in '21 and '20 that it was the intention of those transactions to payoff. A lot of that came within our construction book that had rolled to our multifamily book. So it's sort of right within the lifecycle of those transactions that we expected to see it. And we've actually seen even quarter-to-date, payoffs have really, -- that payoff trend has continued. We've seen almost two-thirds of the level of payoffs that we experienced in all of Q2 already here through July. So we're working to dig back out of that and we expect that to continue to be a headwind here. But overall we feel good about what that allows us to do. It allows us to recycle that cash back into new transactions, which is really our primary driver of both new loan yields and -- increased loan yields and fees.



And in some cases, it's allowing some of those older vintage transactions '20 and 2021, that have felt a little bit more pain as these rate environments have come up, as they were underwritten into a different rate environment to find the right home with an agency takeout or something like that. So ultimately, it helps us with some of our credit risk metrics too. So, not something that we're concerned with, but it is something that is a headwind to new loan or to loan growth as it offsets some of that new origination activity that we have.

[Nathan Race, analyst]

Got it. Very helpful, Nick. Thank you. And then maybe just one last housekeeping question. The securities yields on the taxable portfolio increased nicely over the last quarter. Any repositioning there of note or any other items to keep in mind there?

[Joseph Chybowski, executive]

Yes, Nate, this is Joe. No, nothing out of the ordinary, more of the same just from a composition standpoint. We're definitely an active portfolio management from our perspective. We did sell some securities this last quarter, which is more of a floating rate nature, in kind of reorienting in conjunction with the rest of the balance sheet. So, nothing out of the ordinary there, just really ordinary course and similar composition as we've had over the last couple of quarters.

[Nathan Race, analyst]

Okay, great. I appreciate all the color. Thank you.

[Operator]

And this will conclude our question-and-answer session. I would like to turn the conference back over to Jerry Baack for any closing remarks.

[Gerald Baack, executive]

Thanks for joining the call today. We continue to be encouraged by our margin stabilization, overall revenue growth, our superb asset quality, and continued growth in tangible book value. And I guess I'd just close by, I want to thank our team members. We have a phenomenal team here. We brought on some more real key hires in this last quarter on the treasury and banking side. So we're excited for that. Hope you have a great day.

[Operator]

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect your lines at this time.