Q4 2023 Independent Bank Corp (Michigan) Earnings Call

Presentation

Operator

Good morning and welcome to the Independent Bank Corp. Report JERRY fourth quarter results. I'm Carla and I will be your operator for today. You register a question star followed by one and your kind of.
Thank you. You wish to take your question, please press star followed by two. I will now hand over to your host, Brad Kessel, President and CEO to begin. Brad, please.

Okay.
Good morning and welcome to today's call and thank you for joining us for Independent Bank Corporation's conference call and webcast to discuss the company's fourth quarter 2023 results. I am Brad Kessel, President and Chief Executive Officer, and joining me as Kevin Moore, Executive Vice President and Chief Financial Officer, and Joel Rahn, Executive Vice President, Commercial Banking.
Before we begin today's call, I would like to direct you to the important information on page 2 of our presentation, specifically the cautionary note regarding forward-looking statements. If anyone does not already have a copy of the press release issued by us today, and you can access it on our website at independent bank.com.
The agenda for today's call will include prepared remarks, followed by a question and answer session and then closing remarks. Independent Bank Corporation reported fourth quarter 2023 net income of 13.7 million or $0.65 per diluted share versus net income of 15.1 million or $0.71 per diluted share in the prior year period. For the year ended December 31st, 2023, the Company reported net income of 59.1 million or $2.79 per diluted share compared to net income of $63.4 million or $2.97 per diluted share for the prior year. Our fourth quarter results capped off another remarkably strong year with our organization performing exceptionally well. Despite unexpected challenges in the macro economic environment for the fourth quarter of 2023. I'm particularly pleased with the double digit annualized growth in commercial and our commercial portfolio for the year over year, 4.1% growth in our core deposit base, the linked quarter growth in our net interest income and our strong asset quality metrics, which enabled us to release a small amount of our loan loss reserves. I'm also pleased to see our name expanding from 3.23% to 3.26% on a linked quarter basis, significantly impacting our quarterly results was the decline in price of the fair value of our capitalized mortgage servicing rights of 3.6 million, or $0.14 per diluted share after tax for the quarter. Adding back this non-cash adjustment, our fourth quarter 2024 annualized return on assets is 1.26% versus 1.24% for the three months ended December 31st, 2022. I am also pleased to see a $1.43 or 8.7% increase in our tangible book value per share for the quarter in $2.92 or 19.4% increase in tangible book value per share for the full year during 2023. We continue to make investments in talent and technology, which we believe will enable us to consistently add new clients, grow our market share, increased profitability and further increase the value of our franchise in 2024 and beyond.
Turning to Page 5. Overall, our deposit base continues to perform well. Total deposits at December 31st, 2023 were 4.62 billion. Overall, core deposits decreased just 11.3 million during the fourth quarter of 23, while increased $171 million or 4.1% for the full year of 23. Retail deposits increased for the retail deposits increased for the quarter but were down 81 million for the year. Business deposits increased for the quarter and were up 150 million for the year. Our public fund deposits decreased for the quarter but were up $99 million for the year. During both periods, we continued to see a shift in reciprocal and time deposits as customers look for higher FDIC insurance levels and higher interest rates. We have included in our presentation on page 6, a historical view of our cost of funds as compared to the Fed funds spot rate in the Fed effective rate for the quarter, our total cost of funds increased by 19 basis points to 1.99% through the fourth quarter. The cumulative cycle beta for our cost of funds is 36%. This time I'd like to turn the presentation over to Joe Ryan to share a few comments on the success we're having in growing our loan portfolios and provide an update on credit metrics.

Thanks Brad, and good morning, everyone. On page 7, we share an update of our $3.8 billion loan portfolio. Total loans increased by 50 million in the fourth quarter. The strongest segment was commercial lending growing by 54 million. We also realized growth in our mortgage business with that portfolio growing by 10 million for the quarter. Our installment portfolio experienced a 14 million decline, predominantly related to seasonality. As noted in the material in each portfolio, yield on new production is significantly higher than the respective portfolio yields. We continue to see the return on our strategic investment and the expansion of our commercial banking team. The experienced talent that we've added over the past 24 months has been a strong contributor to our commercial growth, which on an annualized basis was 13% in the fourth quarter and 14.6% for the year.
Looking forward, based on a strong pipeline and a solid liquidity position, we see continued growth opportunity while maintaining our disciplined credit standards.
Page 8 provides additional detail on our commercial loan portfolio. As I pointed out in prior quarters, C&I lending continues to be our primary focus, representing 68% of the portfolio. Manufacturing continues to be the largest concentration within the C&I segment, comprising of approximately 9% or 149 million. The remaining 32% of the portfolio is comprised of investment in real estate with the largest concentrations being industrial at $157 million or 10.2% and retail at $136 million or 8.9% is worth noting that our exposure to the office segment stands at $93 million or 6.1% of our commercial portfolio at quarter end. Our office exposure consists primarily of suburban low-rise office space and medical comprises 25% of our overall office exposure, average loan sizes, $1.3 million, which points to the granularity of this particular segment of our portfolio for additional insight into our office exposure. I refer you to the appendix of this presentation.
Page 9 provides an overview of key quality creep excuse me, key credit quality metrics. At year end, overall, credit quality continues to be excellent. Total nonperforming loans were 5.2 million or approximately 10 basis points of total loans at quarter end, which is very similar to 1231 22 loans 30 to 89 days delinquent totaled 3.3 million or nine basis points, down slightly from the third quarter and in line with 1231 22 delinquency.
At this time, I'll turn the presentation over to Gavin for his comments, including the outlook for the remainder of the year.

Thanks, Sean. Good morning, everyone. I'm starting at page 10 of our presentation sufficient highlights our strong regulatory capital position. Our capital ratios increased from the linked quarter.
Moving on to Page 11. Net interest income decreased 0.5 million from the year ago period. Our tax-equivalent net interest margin was 3.26% during the fourth quarter 2023 compared to 3.52% in the fourth quarter of 2022 and up three basis points from the third quarter of 2023. Average interest earning assets were 4.93 billion in the fourth quarter of 2023 compared to 4.64 billion in the year ago quarter and 4.89 billion in the fourth quarter of 2023.
Page 12 contains a more detailed analysis of the linked quarter increase in net interest income and net interest margin on a linked quarter basis, our fourth quarter 23 net interest margin was positively impacted by two factors, an increase in yield on loans and investments of 16 basis points and change in earning asset mix of four basis points. These increases were partially offset by an increase in funding costs equivalent to 12 basis points and five basis points that were due to change in the funding mix.
On page 13, we provide details on the institution's interest rate risk position. The comparative simulation analysis for Q4 23 and Q3 23 calculates the change in net interest income over the next 12 months under five rate scenarios, all scenarios assume a static balance sheet. The base rate scenario applies a spot yield curve from the valuation date. The shock scenarios consider immediate permanent parallel rate changes. The decrease in the base rate forecast and net interest income in the fourth quarter were 23 compared to the third quarter for 23 is primarily due to an adverse shift in the funding mix and the change in rates during the quarter, which caused the yield curve. Inverts further sensitivities largely unchanged during the quarter, with the exposure to rising rates increasing modestly for longer rate increase, larger rate increases. Currently 33% of the assets reprice in one month and 45.9% reprice in the next 12 months.
Moving on to Page 14. Noninterest income totaled 9.1 million in the fourth quarter of 2023 as compared to 11.5 million in the year-ago quarter and 15.6 million in the third quarter of 23. Fourth quarter 23 net gains on mortgage loans totaled $2.2 million compared to 1.5 million in the fourth quarter of 22. The increase is primarily due to an increase in profit margins and fair value adjustments as well as higher mortgage loan sales volume negatively impacting noninterest income was a $2.4 million loss on mortgage loan servicing net. This is comprised of 2.2 million of revenue that was more than offset by 3.6 million or $0.14 per diluted share after-tax decrease in the fair value due to price and a 1 million decrease due to paydowns of capitalized mortgage loan servicing rights in the fourth quarter of 23.
As detailed on page 15, our net interest expense totaled 31.9 million in the fourth quarter of 2023 as compared to 32.1 million in the year-ago quarter and 32 million in the third quarter of 2023. Performance-based compensation decreased 1.5 million due primarily to lower expected incentive compensation payout for salary and hourly employees and a decrease in mortgage lending related to incentives contributed to the decline in mortgage lending compared to fourth quarter 22 data processing costs increased by $0.2 million from the prior year period, primarily due to core data processors, annual asset growth and CPI related cost increases. Lower net mortgage processing related cost deferrals due to lower mortgage loan volume as well as the purchase of the new lending software.
Our solution.
Page 16 is our update for our 2023 outlook outlook to see how our actual performance during the fourth quarter compared to the original outlook that we provided in January of 2023.
Our outlook estimated loan growth in the low double digits. Flows increased 49.4 million in the fourth quarter of 2023 or 5.2% annualized, which is below our forecasted range. Commercial and mortgage had positive growth while installment loans decreased in the fourth quarter of 23. Full year 2023 loan growth was $325.5 million or 9.4%, which is slightly below our forecasted range of 10% to 12%. Fourth quarter 2023 net interest income decreased by 0.5% over 2022, which is lower than our forecast of high single digit growth. The net interest margin was 3.26% for the current quarter and 3.52% for the prior year quarter and up three basis points from the linked quarter. Fourth quarter 23 provision for credit losses was a credit of 0.6 million below, which is below our forecasted range for quarter 23. Provision expense was primarily Spencer's. Credit was primarily the result of change in allocation of rates due to subjective factors and the payoff of one problem credit. Full year 2023 provision expense was $6.2 million or 0.17% of average total loans.
Moving on to Page 17. Noninterest income totaled 9.1 million in the fourth quarter of 23, which was below our forecasted range of 11 to 13 million for quarter 23. Mortgage loan originations, sales and gains totaled $108 million, 86.5 million and 2 million, respectively. Mortgage loan servicing that generated a loss of $2.4 million in Q4 23 full year 23 quarterly average of $13.4 million, which is above our original forecast. Noninterest expense was 31.9 million in the fourth quarter below our forecasted range of 32 to $33.5 million. 2023 quarterly average of 31.8 million was below our original forecasted range as well.
Our effective income tax rate of 19.8 for the full year 2023 was higher than our forecast in the fourth quarter. We did realize 8.6 million accrual.
Our expense, yes, related to a cruel catch-up related to federal tax withholdings, this was $0.03 per share. Lastly, 10,200 shares were repurchased in the fourth quarter of 2023 and an average share price of $19.88 year to date, 298,601 shares have been repurchased at an average share price of $17.22.
Turning to page 18, this will summarize our initial outlook for 2020. For the first column is loan growth. We anticipate loan growth in the mid to high single digit range and are targeting full year growth rate of 6% to 8%. We expect to see growth in commercial mortgage loans with installment loans remaining flat this out. This outlook also assumes a stable Michigan economy.
Next is net interest income, where we are forecasting a growth rate of 6% to 8% over full year 2024. We expect the net interest margin to increase 10 to 15 basis points in 2024 compared to full year 2023, primarily due to increasing yields on earning assets. This forecast assumes 25 basis point cuts in May June, August and October, and the Fed funds target rate while long-term interest rates declined slightly from year end 2023 levels of full year 2020 for provision expense for the allowance for credit losses of approximately 15 to 25 basis points of average portfolio loans would not be unreasonable.
Moving to Page 19 related to noninterest income, we estimate a quarterly range of 11.5 million to $13 million with the total for the year, flat as compared to 2023. We expect mortgage loan origination volumes to increase by 7% in 2024.
Our outlook for noninterest expense is a quarterly range of 32.5 million to 33.5 million with total for the year three 3.5% to 4.25% above the 2023 actuals. Primary driver is an increase in compensation, employee benefits, data processing, loan collections and advertising. Our outlook for income tax is an effective rate of approximately 20%, assuming the statutory federal corporate income tax rate does not change during 2020.
For Lastly, the Board of Directors authorized share repurchases of approximately 5% in 2024. Currently, we are not modeling any share repurchases in the 2024 period.
That concludes my prepared remarks, and I would like to now turn the call back over to Brad?

Thanks, Kevin. For the strong results, which our company has been delivering quarter over quarter year after year for some time is directly attributable to our talented team. Their focus on personalized service, investing in our communities and making banking easy. We built a strong franchise, which positions us well to effectively manage through a variety of economic environments and continued delivering strong and consistent results for our shareholders for 2020 for our 160th year of serving the communities of Michigan, our focus will be continuing to invest in our team leveraging our technology and supporting our communities. In doing so. We will continue the rotation of our earning assets out of lower-yielding investments into higher yielding loans with the strong value proposition offered as a leading commercial Community Bank. We believe we can continue to grow our deposit base while managing our cost of funds and controlling our noninterest expenses. Accordingly, we are excited about the opportunities we have to grow the business.
At this point in time, we'd like to open up the call for questions.

Question and Answer Session

Operator

Thank you. If you'd like to ask a question you may do so by pressing star followed by one on your telephone. When preparing for your question, please ensure your devices are muted locally. You wish to have a question, please press star followed by two. We will now take our first question away from.
Hey, great, Eric, your line is now open.
Correct.

Thank you. Good morning, everyone. I wanted to start with a more minor thing on the net interest margin and the outlook for 2024, you mentioned an expectation for a 10 to 15 basis point increase. And I'm wondering if if that increase is likely to be relatively consistent kind of incremental throughout the year, are there other factors that perhaps the potential Fed fund cuts that would cause increases to be more and more varied from quarter to quarter?

Yes.

So Bob, to answer the first part of your question, Eric, would it is a fairly smooth increase over the year? I did we did highlight that we do have the Fed rate cuts built into that assumption. So should they know deviate from from what we anticipate that that could have a impact I would say generally though, we are seeing we're expecting the expansion, assuming that our deposit trends remain stable. It's really driven by the repricing of the assets into higher yielding and to a higher yielding rate. So that's the real driver there.
Thanks.

I appreciate the color there. And then next, curious if you could just talk a little bit about your use of brokered deposits at this point, your loan-to-deposit ratio is still are very strong. And just given your focus on adding new commercial customers that come along with deposits, it doesn't seem like you necessarily need to use them. But I'm wondering if it's just so that you kind of stay active in the market. And I realize it's still again, kind of a small percentage of your total deposits at this point?

Yes.

So we use a brokered or FHLB wholesale, and we take a look at what's most economical to time based on the the funding we need. It's been very short term of the funding we've been doing from there at the end of the quarter or the end of the year. Here we did do we did carry a little more cash just to position the balance sheet in preparation of some maturing brokered. And so that's why you see the cash balances a little higher year end. But yes, we will we'll use brokered it as needed for a short term funding gaps.

And Turning next to loan growth, you outlined the expectations for growth in the year. I'm wondering if you could provide just a little bit commentary in terms of what the pipeline looks like today and in the mix, particularly in terms of if there's any industries that are more heavily represented? Are you're seeing better risk-adjusted opportunities today?

Yes, hi, Eric. This is Joe. So in terms of our commercial pipeline, it's very comparable to is there some seasonality to it. So I have to compare kind of point to point. I look back at last year and we're very comparable to how we started 2023 as we move into Now 2024 and down most of our opportunity, I would say it's pretty diversified. We're seeing still opportunity in Europe with our manufacturing customer base. There are equipment acquisitions and that sort of thing going on. We've had good success with medical related growth with the medical practices, and that's been an area of some of growth for us and we've got some good opportunities coming up there. And then, Tom, a lot of what I would refer to is market share opportunity for us as we continue to win business from them, the large regional banks.

And then last one for me. Just curious, as you look at your current technology profile and then offerings to both the commercial and retail customers any new initiatives or investments that you're planning for this year?
So Eric, as you recall may recall, in May of 21, we did a whole bank core conversion on wheel on it took up, you know, quite a few quarters after that to really absorb that. And so today, here in first quarter 24, we feel very good about our technology stack. We think it's very attractive stack. It's agile and provides us significant flexibility. We do have additional home solutions that are planned to plug in 24 and 25 and and we'll do that. But the major lift for our company was done in 21.
Thanks so much for taking my questions today.
Thanks, her.

Thanks.
And our next question comes from Damon DelMonte from KBW. Damon, your line is now.

Yes, good morning, guys. Hope everybody's doing well today on just a question on deposits. The rotation between noninterest-bearing and an interest bearing continued here on. Was the decrease this quarter, was that it was there seasonality in that number or was that just continued trend from what we've seen earlier in the year?

Yes. So there is some seasonality there, but we are seeing that continue that trend that we've seen since the March continued, although we it is slowing. So yes, yes, it's the trend is continued.

Yes.

And so right now, I think non-interest bearing around 23, 23% of total deposits. Do you feel like you've kind of reached a floor there or do you think there's still more room for that to remix lower?

If so are our 24 forecast, we'd be showing that fairly stable, maybe down another percent or two but we think we've coming to we're optimistic we're coming to a place of stability there. So hopefully, the hopefully we're right.

Got it.

Okay. And then on the margin, I appreciate the commentary, the prepared remarks and then the commentary around them. Eric's question earlier on if we don't have four rate cuts like you guys are forecasting and let's say we get to on is it is the impact kind of linear like we could just deal instead of it being 10 to 15 basis points. Maybe it's closer to six to eight or eight to 10 basis points.

It's not it's not linear in that manner. And we so we ran it without data. We've looked at it multiple ways. But interestingly, the balance sheets currently configured what we're at just paying to happen with deposits and loan growth next year is up, plus it operates unchanged, is marginally better, but just marginally. So yes, it's not linear?

Yes.

Okay. So so the key the benefit to the margin is not truly dependent on rates being cut. It's more of I think you noted on continued loan growth that at higher rates and the remixing of the earning assets.

But yes, that's right, Jamie. The likes of like all most of our peers time is our friend here. So we got 140 plus million of securities coming off next year, sub 3.5% that we were going to redeploy in the seven range. So that's really the big driver. Now, if deposits on the deposit remix, we really miss that. That is we all are aware could be cut a material headwind.

Got it.

Okay.
Great.
That's all that.

I had.
Thank you.

Thank you again.
We will now take our next question from Peter Winter from D.A. Davidson. Your line is now open. Please go.

Thanks.

Good morning.

I was wondering could you talk about maybe borrower sentiment today versus 90 days ago? And secondly, would you expect that loan growth would pick up more in the second half of the year?

If the Fed cuts rates.

On the commercial side, I would say that the borrower sentiment is has been pretty stable on is I talk to our customers, our especially our significant customers on. I think most of them I would characterize their outlook for 24 is much the same at 23. Most businesses are doing well and wouldn't be great doing well and your automotive strike, unfortunately, was resolved before it really inflicted a lot of pain on the supply base. So I think the outlook is pretty stable. And I do think that if we get to the second half of the year and rates do start to come down, that could provide some some lift to things like commercial construction in future future project planning, it would be my take.
Got it. And then just the credit quality on net charge-offs have really been excellent. Is there much left in tons of recoveries? And I'm just wondering what a more normalized level of net charge-offs looks like?
Yes, that's a great question. We have been successful year over year and producing some level of recoveries. I think we've our melt that pretty good there. There's still a portfolio that's being worked out there, probably more lumpy and smaller. And so but we feel really good about them. Our overall credit quality in each of the loan portfolios. When I look back on 23, I think our early problem loan identification and then managing those situations either to house or to somewhere else has been really good. So um, you know, credit quality continues to be a real strength for independents.
And just what would you think a more normalized net charge-off is?

I'm for you guys.
You know, we I would probably tend it to something near the provision range that we gave in the prepared remarks. So that 15 to 25 basis points say the middle of the range, 20 basis points for a net number is is sort of how we model it.

Got it.

Great.
Thanks for taking my questions, sir.
Thank you.
And here as a reminder, if you'd like to ask a question, please press star followed by one and 10. We will now take our next question from John Rodis from Janney John, your line is now open.
Please go ahead tomorrow.
Does Greg already or just Brad, maybe just a big picture question for you. You've got the buyback approved to increase the dividend. But in your guidance, you said you don't at least right now you're not modeling repurchases. So maybe your thoughts on other capital use, you know, M&A on the like in the current environment? Or is it more sort of focus internally sort of as you guys have been doing?

Yes.
So John, that's a great question. And first off, I am really pleased with the improved TCY. levels that we've seen year over year and up and up at all over a very challenging period with a lot of uncertainty, we continued to stay focused on the long run. And hence, you saw us with some pretty material levels of buyback in 23 and when maybe others are doing that. And and so you know that the dividend is an important part to our story and to have increased that again for the 10th or the 11th consecutive year. And here in January was important for us. So we want to continue that trend. And ultimately, it's just it's a function of excess excess capital. Our first priority would be to support the growth. And you heard a little bit about what we think and on the organic growth side of it. Having said all that, I also believe that, you know, and I talked about our investments in technology. I think we have a lot of strengths as an institution on from our people to our technology to the markets that we operate in. And so on the M&A front, we are very open to somebody that has an interest in partnering with a strong organization like independent. So of that, that is also there. You know, our last acquisition was in 2018 and up in the Traverse City market. And that has just proved to be better than even we expected. So some acquisitive growth would be welcome, but are long term strategy is not dependent on it.

Yes.
Makes sense, Brad. Thank you.
Thank you.
And we have no further question with that, I'll hand back to Brad Kessel, final remarks.
In closing I'd like to thank our Board of Directors and our senior management for their support and leadership. I also want to thank all our associates. I continue to be so proud of the job that being done by each member of our team, each team member in his or her own way continues to do their part toward a common goal of guiding our customers to be independent.
Finally, I'd like to thank each of you for your interest in Independent Bank Corporation and for joining us on today's call. Have a great day.
Concludes today's call. Thank you for your participation. You may now disconnect your lines.