West Bancorporation Q1 2023 Earnings Call Transcript

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April 27, 2023

There are 6 speakers on the call.

Operator

Good afternoon, everyone. Thank you for attending today's Westbank Corporation Q1 Earnings Call. My name is Sierra, and I will be your moderator today. All lines will be muted during the presentation portion of the call with an opportunity for questions and answers at the end. I would now like to pass the conference over to our host, Jane Funk, CFO of Westbank.

Operator

Please proceed.

Speaker 1

Thank you. I just want to start out by thanking everyone for joining us on our call today. With me in our Conference room, I've got Dave Nelson, our CEO Harley Oleson, our Chief Risk Officer Brad Winterbottom, Bank President I'm Brad Peters, our Minnesota Regional President. I'll start out by reading our fair disclosure statement. During today's conference call, we may make projections and other forward looking statements within the meaning of the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995 regarding future events or the future financial performance of the company.

Speaker 1

We caution that such statements Our predictions and that actual results may differ materially. Please see the forward looking statement disclosure and our 2023 Q1 earnings release for more information about risks and uncertainties, which may affect us. The information we will provide today is accurate as of March 31, 2023, We undertake no duty to update the information. At this point, I'll turn it over to Dave Nelson.

Speaker 2

Thank you, Jane. Thank you, everyone, for joining us today. We appreciate your interest in our company. With all that has been happening during recent months with our economy and specifically within our industry, Our Q1 turned out as we expected. The inverted yield curve has contracted our net interest margin and adversely impacted earnings.

Speaker 2

Given the run up in deposit costs and uncertainty surrounding the economy, we think we have fared fairly well to remain relatively flat With loan and depository balances. When we say our deposits are relationship based, we don't just mean people are loyal to our brand or logo. We mean we actually know them personally and interact with them frequently. We actually know what is most important to each other and try to mutually provide that So we have not had customers withdraw deposits for irrational reasons. We have lost some deposits due to some customers chasing a higher rate and some business owners have been using their own reserves for various Business purposes, but we have not lost customers.

Speaker 2

We are also successfully gaining new business. Obviously, our net interest margin has taken a hit as deposit costs have increased faster than loan yields. This problem will persist until the inverted yield Curves subsides and the yield curve normalizes. Westbank is well capitalized And has plenty of liquidity and funding sources with the ability to get more if ever advantageous to do so. While we do have several opportunities in our pipeline, I don't think many, including me, are expecting our overall economy to grow much this year.

Speaker 2

If our economy does not grow, it is not possible for our industry as a whole to grow. Higher interest rates and Fear of economic recession are expected to reduce loan demand. Our credit quality remains pristine, And we just had our 7th consecutive quarter end without having a single loan past due 30 days. Rapidly increasing interest rates Temporarily harm our net interest margin, but as assets reprice and rates stabilize, we believe Our net interest margin will improve and our historic level of earnings will return. We are willing to pay up on deposits to maintain our Our Board of Directors has declared a quarterly A regular quarterly dividend of $0.25 per common share, the dividend is payable on May 24, 2023 to stockholders of record on May 10 this year.

Speaker 2

Those are the extent of my Prepared remarks, so I'd now like to turn the call over to our Chief Risk Officer, Harley Olafson.

Speaker 3

Hey, thank you, Dave, and good afternoon. I'm going to Pete, a couple of things Dave said. Credit quality remains very strong at Westbank. And as he said, for a 7th consecutive quarter, we have 0 loans passed Over 30 days. We have no OREO and one loan of $300,000 on non accrual.

Speaker 3

Our watch list Is that a historically low level? We have continued to focus on our customers' global cash flows, dealing with a customer base that has Strong sources of liquidity and strong global cash flow has served us well as shown in our lack of past dues over a long period of time. We continue to stress test our portfolio and individual loans that are maturing and will have rate increases. Most loans are fairly seasoned with relatively low loan to values and have excess cash flow to cover increased costs. We have a diverse loan portfolio with our largest concentrations as follows: C and I, dollars 527,000,000 multifamily housing, dollars 436,000,000 with an average loan to value of 69% Warehouses, dollars 280,000,000 with an average loan to value of 64 percent hotels, dollars 273,000,000 Average loan to value, 66 percent medical office properties, 197,000,000 Loan to value, 59 percent office and owner occupied office properties, dollars 186,000,000 with average loan to values of 70 percent Senior housing, dollars 150,000,000 average loan to value, dollars 64 percent and mixed use properties of 96 percent of our outstanding balances in Des Moines, 25% in Eastern Iowa and 25% in now in our Westbank's focus is to provide the best service to our customers to All of the business, we have strong customer retention and have brought in significant new C and I relationships.

Speaker 3

With depository costs increasing along with loan rates, new development has declined. That being said, there are plenty of opportunities Further our existing relationships and propose our new business. The economy and rising interest rates will continue to be a challenge. Lower profit margins will be a price we need to pay to keep our customers. Rates that do not increase at the same pace as they did in 2022 allow our margins to trend back to more historic norms.

Speaker 3

I'll now turn the call over to Brad Winterbottom, our Bank President. Thank you. My comments will really echo some of the things Dave As we talked about, for the Q1, our gross loans, PPP loans outstanding We're at $2,760,000,000 up just under 1 half of 1 percent from year ended 2022. A reduced pipeline driven mostly by the higher interest rate environment with Expected payoffs from refinance and asset sales impacted our growth in loans outstanding. While the pipeline is a bit smaller than prior quarters, there is still good activity that we are working on to close in the near term.

Speaker 3

We have gained some traction in our deposit gathering sales, which remains a priority. We are replacing loans from normal amortization And asset sales with higher priced loans, which will help the margin in time. We're pleased with the entire Our team's efforts and their courage with their sales call activities. With that, I'm going to turn this over to Mr. Brad Peters.

Speaker 2

Thanks, Brad. Good afternoon, everyone. I'm going to provide a brief update on our expansion into Minnesota. Our team continues to make solid progress in growing each of our Minnesota regional centers. In these uncertain times, our bankers are actively working With our clients and providing value through our deep relationships.

Speaker 2

In spite of the challenging environment, we continue to grow our business. The majority of our new business is C and I, which has grown our deposit and treasury management business. The Mankato market is looking forward to occupying its new facility with plans for completion late this summer, And our Owatonna market has identified a site for a new building, and we anticipate construction of that to begin later this summer. That is the end of my comments. I will now turn it back over to Jane.

Speaker 1

Thanks, Brad. I'll just make a few comments About our financial statements, on the deposit side, the decline in deposits this quarter was primarily due To a decline in broker deposits and public fund deposits, other core deposit fluctuations during the quarter For normal operating activities of our commercial customer base, including March income tax and property tax payments, deposits have increased $40,000,000 in Primarily as a result of tax receipt allocations of our public fund depositors. We continue to see significant rate Competition from treasury money market funds and in market competitor money market and CD rates. We're also seeing a migration within our deposit Based from non interest bearing or low interest bearing checking and operating accounts to higher yielding money market and CD options, Customers have become much more active in managing their operating and surplus cash balances. An estimated uninsured deposit, which excludes the public funds that are covered by state programs to make up approximately 33% of our deposit balances at quarter end.

Speaker 1

We primarily utilize Federal Home Loan Bank advances and broker deposits to manage our deposit fluctuations and loan growth over the last year. Our liquidity position at March 31 consisted of $452,000,000 of available funding from Federal Home Loan Bank and Federal Reserve, Which are secured by loans and securities. We have $35,000,000 of unsecured Fed fund lines with other financial institutions. We have $350,000,000 of unencumbered securities. We also have access to additional broker funds through contracts with 2 brokers and enterprise 1 net buy option.

Speaker 1

First net interest margin, our net interest margin, as mentioned, has been significantly impacted by the pace of increases in short term interest rates and the scale and longevity of the inverted yield curve. The reduction of liquidity in the market and competitive Short term interest rates has resulted in rising cost of our deposits that has significantly outpaced our repricing of our assets. By the nature of our loan portfolio And our concentrations in fixed rate CRE loans, ongoing repricing of loan amortization and maturities should benefit our loan yield In future periods, however, any additional migration of deposits from low cost deposit accounts to higher yielding money market and CD options We'll put additional pressure on our margins. Those are the end of our prepared comments and we would open it up for questions now.

Operator

Please remember to pick up your handset before asking your questions. Our first question today comes from Brandon Nozzle with Piper Sandler. Please proceed.

Speaker 4

Hey, good afternoon, folks. How are you doing?

Speaker 1

Good, Brandon. How are you?

Speaker 4

Good, good. Thanks. Let's see, maybe to start off on kind of the funding and deposit Pricing area, I was just hoping you could walk us through how funding costs evolved kind of month to month over the course of the Q1, Kind of when you felt the most pressure. And then if you happen to add where spot funding costs were at the end of March?

Speaker 1

Yes. So the our funding costs on the deposit side, We did increase our money market rate in the Q1, which was probably the biggest impact on our deposit costs. We saw a lot of competitive pressure in the money market area. I think prior to Q1 as more CDs and things like that. But the more liquid funds, we're seeing more pressure on those rates.

Speaker 1

So that's where I think most of the pricing pressure came on the deposit side.

Speaker 4

Got it. Got it. Okay. And then in terms of the mix shift that you saw within the deposit base This quarter, like many other banks, I'm just kind of curious when at what part of the quarter was that hedges? Was it kind of at the start of the quarter Or more around the March time frame, given the bank failures that occurred then.

Speaker 1

I would say the bank failures were not Didn't have a significant impact on our deposit balances. At that time, we've had a lot of interaction with Our customer base over the last year as it relates to deposit pricing and things like that. So I think, again, our relationship based model Allows us to have conversations directly with our customers. And certainly, we were fielding questions at that time. But as Dave said, there really was we didn't see the irrational behavior that some of the other parts of the market were seeing.

Speaker 3

Got it.

Speaker 4

Okay. All right. And then can you maybe update me on how much index Deposit balances you had that would hopefully reprice lower whenever the Fed does start cutting rates?

Speaker 1

Yes. Those are those have been pretty steady around that $800,000,000 mark.

Speaker 3

Okay, perfect.

Speaker 4

And then maybe on the kind of the underside of the balance sheet, Just kind of curious where new loan production is coming on sheet today in terms of the new rate.

Speaker 3

Say that again. Where the loans are coming from?

Speaker 1

The rates.

Speaker 4

The rates. What rate new loan production is coming on sheet at?

Speaker 3

I would say mid to high 6s, maybe touching 7 on occasion.

Speaker 4

Okay. All right. Perfect. Let's see. With the loan to deposit ratio up to Kind of 98.5%.

Speaker 4

Just kind of curious how much comfort you have operating here and how much higher you'll be willing to push that in the short term If kind of the flows between loans and deposits don't completely align.

Speaker 3

Well, that's a good question. And I'm not sure that we've ever talked about having a specific Max, on a loan to deposit, I can tell you our pipeline has shrunk. We're not running From new loan opportunities, but we're also have had a lot of discussion and Activity in terms of gathering additional deposits. And so I think that our efforts Deposit gathering has increased over the last 6 months than prior as The cost of funding has increased. But we are during the Q1, I know that we closed Over $200,000,000 in loan commitments.

Speaker 3

That doesn't equate to outstandings, but it's so the pipeline is still Okay. It's not as robust as it was this time a year ago, but we're out chasing daily.

Speaker 4

Got it. Got it. Okay. That's super helpful. Maybe kind of taking the comments on the loan pipeline And kind of thinking about overall loan growth for the year, obviously, a bit softer to start the year.

Speaker 4

Just kind of curious how you see the balance of the year shaping up in terms of a growth percentage?

Speaker 3

We don't have a number there. We are aware Additional assets that have been sold that are expected to close in the next few months, That will and they're bigger loans. So I don't see the type of growth that we've had in prior years, which are double digit. I don't think that's going to happen this year, but that's a guess.

Speaker 4

Yes, yes. So helpful nonetheless. Okay, good. Maybe just Turning back to the margin for a moment. Do you folks happen to have what the NIM was for the month of March just to get a sense of kind of where it finished the quarter?

Speaker 1

It was, I must say, 2.21, I think. 2.20, 2.21 was the March net interest margin.

Speaker 4

Okay. So it seems like it at least stabilized a little bit if the full quarter was 2.23% and March was 2.21%, right?

Speaker 1

Yes. I would say, if the as the pace of the Fed increases have slowed down, Then the hits to our margins have slowed down. So

Speaker 4

Okay, perfect. I guess another way I can ask that is NIM was down 26 bps this quarter, 28 bps last quarter. It sounds like that should repeat again at that magnitude in the second quarter, correct?

Speaker 1

We hope not. We hope not, assuming. But again, Depending on what the Fed does, depending on the migration of deposits, those types of things will certainly play into it.

Speaker 4

Yes. Okay. I know that there's an endless number of moving pieces here, but that's definitely helpful thoughts there. Maybe to kind of turn your way from those topics to the expense base. Any thoughts on And how you go about managing the overall clock pace in a really challenging revenue environment?

Speaker 1

Well, our efficiency ratio this quarter was 55%, Which is not where we normally would like to be. The biggest impact on that was the net interest margin. I think the what benefits us is our cost structure in that in a normal operating environment, we're usually In the 40s, so we can withstand some of this net interest margin pressure without having to make significant Cuts and

Speaker 4

expenses. Got it. Okay.

Speaker 3

All right. Good.

Speaker 4

Maybe turning to credit quality and in particular office. I think the slide deck noted that office About 7% of the total loan book, I think I caught the LTV in your prepared remarks. Is there any more color you can offer on that Portfolio, maybe that's the split between urban and suburban exposure, average loan stock and that sort of coverage, anything like that?

Speaker 3

Yes. Actually, the office portfolio that we have is performing very well at this time. We only have one real urban office property, which is Basically, occupied by a law firm, a construction company and Another firm, so it's 100 percent occupied. It's fairly new with long term tenants. Our other office properties, we have a fair amount of office Properties that are owner occupied, and we also have a fair amount of suburban office properties that are in very strong hands.

Speaker 3

So the average cash flow at our office properties in our latest stress test is over debt service coverage of over 140. And if you're looking at medical office, most of the medical office properties are clinics that are Doctor. Halligan performed very well even at a higher level. I would also just add that Some of those office loans that we have outstanding, there are guarantees behind it that sit behind it with substantial Like 2 commas worth of liquidity that stands behind their guarantee. So Darren, these are with very seasoned long term customers That have a substantial balance sheet behind it, that stand behind it.

Speaker 4

Fantastic. That's excellent color. It really helps us to kind of benchmark exposures across various banks and I know they stack up. Okay. Maybe one more question for me on capital.

Speaker 4

Nice to see ratios starting to

Speaker 3

move in the right direction again as you guys

Speaker 4

recapture some of the AOCI And again, as you guys recapture some of the AOCI hit from last year, so maybe with the outlook for You have modestly slower loan growth this year. Just kind of lay out your updated capital priorities and what you're trying to accomplish this year and how you want to use it?

Speaker 1

Well, I think our We're in a strong capital position. And over the course of the next 12 months, again, Like we mentioned, not necessarily expecting a significant amount of economic growth, which means probably not a lot of growth in the banking industry. And so our balance sheet, we don't see a lot of Growth or a lot of changes over the next year. So our capital position, ideally with the retained earnings for the year And if there's any improvement in the AOCI, we would expect capital to continue to strengthen.

Speaker 4

All right. Perfect. Well, thank you all so much for taking so many of my questions. I appreciate it.

Speaker 1

Thanks, Brendan.

Operator

Thank you for your question. Our next question comes from David Welsh with River Oaks Capital. Please proceed.

Speaker 5

All right. Thank you. And I'll acknowledge this will probably not be an articulate question, but I think you'll understand what I'm looking for. You're heavily into commercial real estate on earning assets. At least my understanding is that generally is not a very Deposit Heavy clientele.

Speaker 5

I'm looking for kind of your thoughts in however General terms you'd like about the difference between your customers on the earning asset side and the customers on the funding side? And then specifically, in today's environment, are you open to extending loans that don't bring deposits in?

Speaker 3

Maybe I could address that. Our biggest concentration is actually in our C and I portfolio, and I I think the one part that gets missed when we look at this is how liquid our C and I customers are And the low level of borrowing that they have on their lines of credit, our lines of credit Our unfunded to about $1,000,000,000 And when you look at the balance sheet of the bank, The a lot of the assets are invested in either owner occupied or commercial real estate investor developer type. But from a customer base, we have a significant customer base in C and I that are depository customers and also individual owners and first

Speaker 5

Yes, it helps and go ahead.

Speaker 3

I would also add, we're about we're not quite 50% through annual renewals of lines of credit. But For the most part, all of our C and I lines of credit that we're renewing for an additional year, We've looked at their balance sheet, their income statements. Those have all had positive impacts in 2022. So our borrowers are stronger and maybe a little bit more liquid than they were a year ago. And then you asked a question about do we make loans and not require deposits.

Speaker 3

That's something

Speaker 4

that we do not do.

Speaker 3

We just don't do that. We're not doing transactions. We're looking for relationships.

Speaker 2

Okay. We don't do a deal.

Speaker 5

Okay. That's good to know. And I just want to read a couple of numbers and tell you where I'm coming. I'm just going to ask you if Simply wrong. I'm looking at disclosure from what's now S and P, formerly S and L, Using your Y9C, and it's telling me that your real estate loans To total loans at year end, so I'm a quarter off, year end were 79% and your C and I was 17%.

Speaker 5

Are those just wrong numbers?

Speaker 1

No. I think what Harley was saying was We've got a significant customer base and C and I type of customers. They don't necessarily show up on the balance sheet because a lot of their lines of credit are unused. So we've got a strong base of C and I customers That helped to fill our deposit base. They just aren't heavy borrowers.

Speaker 5

Okay. I see what you're seeing. Okay. So 79% of loans are real estate, but that's not Necessarily taking into account the lines of credit that are not drawn. Okay.

Speaker 1

Correct. Yes.

Speaker 5

Thank you for the clarification.

Operator

Thank you for your questions. There are no questions waiting at this time. So I'll pass the conference back over to the management team for any further remarks.

Speaker 1

All right. Well, we just want to thank everybody for joining us today. We'll do this again in 3 months for the Q2. And Thanks again.

Operator

That concludes the Westbank Corporation's Q1 earnings call. Thank you all for your participation. You may now disconnect your line.

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