ConnectOne Bancorp, Inc. (NASDAQ:CNOB) Q1 2024 Earnings Call Transcript

ConnectOne Bancorp, Inc. (NASDAQ:CNOB) Q1 2024 Earnings Call Transcript April 25, 2024

ConnectOne Bancorp, Inc. misses on earnings expectations. Reported EPS is $0.41 EPS, expectations were $0.42. CNOB isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Thank you for standing by. My name is Marvilou and I will be your conference operator today. At this time, I would like to welcome everyone to the ConnectOne Bancorp, Inc., First Quarter 2024 Earnings Call. All lines have been placed on mute to prevent any background noise. After the speaker’s remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press star followed by the number one on your telephone keypad. If you would like to withdraw your question, press star and one again. Thank you. I would now like to turn the conference over to Siya Vansia, Chief Brand and Innovation Officer. You may begin.

Siya Vansia: Good morning and welcome to today’s conference call to review ConnectOne’s results for the First Quarter of 2024 and to update you on recent developments. On today’s conference call will be Frank Sorrentino, Chairman and Chief Executive Officer, and William Burns, Senior Executive Vice President and Chief Financial Officer. I would also like to caution you that we may make forward-looking statements during today’s conference call that are subject to risks and uncertainties. Factors that may cause actual results to differ materially from expectations are detailed in our SEC filings. The forward-looking statements included in this conference call are only made as of the date of this call and the company is not obligated to publicly update or revise them.

In addition, certain terms used in this call are non-GAAP financial measures, reconciliations of which are provided in the company’s earnings release and accompanying tables and schedules, which have been filed on Form 8-K with the SEC and may also be accessed through the company’s website. I will now turn the call over to Frank Sorrentino. Frank, please go ahead.

Frank Sorrentino: Thank you, Sia, and I appreciate everyone joining us this morning to discuss ConnectOne’s first quarter performance. We entered the first quarter firmly on the offensive, and despite the backdrop of a challenging landscape, we remain dedicated to our relationship banking model. The efforts of our team, the investments we have made in our future, and our unwavering commitment to our clients is paying dividends and demonstrating the strong forward direction. As you have heard me emphasize before, supporting our clients is ConnectOne’s top priority, an approach that has consistently proven effective and has enabled us to expand our banking relationships, grow in the number of verticals, and expand into new markets, while also reducing exposure to non-relationship businesses.

Through the aligned efforts of our entire team, we began to see an increase in deposits in the fourth quarter of last year, and that momentum is continuing during this first Quarter. We are optimistic that this trend will continue throughout the year. Bill will get into this future, but the sources of deposit growth include building our C&I client list, our recent entry into the Long Island market, and the ongoing expansion of our presence in Florida. As for the loan portfolio, we continue to see opportunities from our existing clients, particularly in the C&I and construction verticals, and we have begun to manage non-relationship loans off the balance sheet. These actions are intended to improve our loan-to-deposit ratio and lower our CRE concentration.

Shifting to net interest margin, we are already seeing a gradual expansion in our net interest margin ahead of Fed rate cuts, and as Bill will cover in more detail, our NIM showed a favorable trajectory during the first quarter. Turning to credit, several important credit quality metrics improved during this first quarter. Non-accrual loans declined. Criticized and classified loans continue to decrease, and delinquencies remain very low. These efforts all reflect our long-standing high credit standards, our relationship-based client philosophy, and our track record of avoiding riskier sub-segments, such as the New York City office, which represents just 1% of our total loans, and New York City regulated, where the exposure is less than 5%. In terms of capital, our regulatory ratios remain well above required minimums, and our tangible common equity ratio was 9.25% at the quarter end, affording us the flexibility to repurchase stock during times of slower growth.

We expect to continue repurchases under the current operating and economic environment. Those who follow us closely know, we have an excellent track record in growing tangible book value, and once again, our tangible book value per share increased during the first quarter and is up over 5.5% from a year ago. Additionally, reflecting the confidence in our future profitability and a solid capital base, we are pleased to announce a $0.01 increase in our cash dividend to $0.18 a share. This is our fifth dividend increase since 2021, and our Board of Directors will continue to evaluate future dividend increases in the future. Supporting our focus on driving growth, we continue to hire high-performing talent, adding to an already experienced team of bankers here at ConnectOne.

This is nothing new for us, as we’ve always taken an opportunistic approach to talent acquisition, and the shifts in our market and among the competitors that provide lucrative opportunities for us. I am also pleased to note, we are seeing compelling opportunities for non-interest income growth, including within our [indiscernible] platform. The platform continues to onboard new franchisor or brands, while expanding the use of its hallmark product, BeVerify [ph], through the company’s franchisee base. As we look ahead, we continue to explore opportunities to build that ecosystem around the needs of franchisees. In summary, I am pleased to report the company delivered a good start to the year, both financially and operationally, and we believe ConnectOne is well-positioned to execute on our long-term objectives.

With that, I’ll turn it over to Bill to give us a little bit more depth and some color on the results. Bill?

William Burns: Okay, thanks, Frank. Good morning to everyone. I would like to start off by giving everyone on the call just a general view on where ConnectOne’s financial state is and where our metrics are headed this year. Notwithstanding the Fed’s continued hawkish stance, our goal and our outlook is to finish 2024 with an even stronger balance sheet and increased profitability. First, we see a wider net interest margin coming for ConnectOne, which will drive improved profitability. Second, we are aiming for slow but smart fund growth, which will contribute to wider margins, improve our loans and deposit ratio, and reduce our commercial real estate concentration regulatory metric. Third, of course, we want to maintain our sound capital base and credit quality.

Lastly, I want to mention that we remain very close to the $10 billion threshold. It is not clear right now if we are going to cross that in 2024 or early 2025, but we want to make it perfectly clear that we have been and continue to be well-prepared with our regulators. The Durbin hit would be small, and expenses associated with the threshold are already in our expense base. Our regulatory risk-based capital ratios remain strong, as does our tangible common equity ratio, which is in excess of 9% of the holding company, and it’s in excess of 10% at the bank level. These SEC ratios have largely been unaffected by AOCI due to the hedging that we put in place several years ago. Our capital plans call for continued stock and purchases along with today’s modest dividend increase, but also, we are targeting to end 2024 capital levels at or above where they are now.

The margin did compress slightly during the first quarter from the sequential fourth quarter, but the good news is that, the margin appears to have bottomed out in January and is now headed upwards. Our February net interest margin was 2.66, and that widened by six basis points to 272 in March, and April is also off to a good start. The margin stabilization comes as our cost of funds is remaining relatively constant. That’s helped in part by growth in non-interest bearing demand and the fact that, we have probably hit our terminal beta. At the same time, the loan portfolio yield continues to inch up. Recently, we’ve been booking loans at about 8.5%, while the loans rolling off are at 6.5% or below. Our loan pipeline predominantly consists of wider spread C&I and construction, while tighter spread multifamily originations have been limited, and we foresee that trend continuing.

If those dynamics of the past couple of months continue, and we believe they will, our projections indicate that even without any rate cuts during 2024, our margin could expand upwards of 15 basis points between the first quarter and what we expect in this year’s fourth quarter. And on top of that, I’m going to stick with my previous guidance, which stated that, for each 25 basis point Fed cut, our margin will expand almost immediately by five basis points. For the first quarter, deposits grew while loans decreased. As Frank alluded to, deposit traction is building through several sources, including our C&I team continuing to onboard new clients, the continued build of our South Florida foothold, and entry into the Long Island market. In terms of loan growth, we will continue to prioritize relationship-based non-CRA lending, while placing less emphasis on commercial real estate lending, and proactively reduce non-relationship credits, all of which is expected to result in subdued, if not flat, net loan growth.

Switching over to non-interest income, the quarterly run rate has been approximately $3.7 million. I am projecting modest increases here are coming from higher SBA loan sale gains, higher fee revenue at BoeFly, and we also expect to implement a tax-based restructuring of some of our outstanding building. All in all, I am just projecting that, we have about 10% growth in non-interest income by year end. On the OpEx side, sequential growth from the fourth quarter was 3.7%, not unexpected. It is typical to ConnectOne for the first quarter, and going forward, I am estimating 1% to 2% sequential growth in expenses throughout the rest of 2024. Now, that expense growth rate could be higher or lower, and could be influenced by actual revenue growth, but as Frank has mentioned many times, we are committed to investing in our infrastructure, as well as taking advantage of opportunities created by M&A disruption.

In terms of credit, we continue to feel very comfortable with overall portfolio credit quality. Non-accrual loans fell by about 10%, while our 30-day to 90-day delinquencies were at an historic low at just 0.04% of loans. The total criticized assets came down again, the fifth straight decline to 1.3% of loans. Our provision for the quarter was $4 million, approximately in line with street expectations. We had 15 basis points of charge loss in the quarter, coming from a handful of partial charge loss related to loans acquired as part of an acquisition. Now, we could see similar levels of charge loss for the remainder of 2024, but my expectation is that the charge loss level is likely to subside as we get beyond the end of the year. Adding to the provision for the quarter were some modest upward adjustments to our CECL qualitative factors, and that pushed the allowance percentage to above 1%.

At this point in the economic cycle, we certainly believe, it makes sense to be conservative by increasing the allowance coverage. As a reminder, our exposure to New York City office is 1.2%, and all New York City multifamily is 7.5%, but only a portion of that 7.5% are rent-regulated loans, so the risk exposure is even less. I would say, it’s in the 4% to 5% range. We continue to scrutinize and stress our rollover and repricing risk. We do this both on a top-down basis, utilizing electronic analyses, as well as bottom-up loan-by-loan reviews when needed. The results of those stress tests analyses show a limited potential impact on credit costs going forward. Just one more item before I send this over back to Frank. I just want to give you guidance on the effective tax rate, for the quarter was 25.5%.

That was helped by the expiration of New Jersey’s surtax rate that had been in place for several years. Going forward, our effective tax rate could increase due to growth in taxable income, and we always try to mitigate some of that increase with additional tax-free income sources. With that, Frank, back to you.

Frank Sorrentino: Thanks, Bill. In summary, our operating results remain solid, our balance sheet remains strong, and our credit metrics remain resilient. Looking ahead, we’re optimistic about 2024. There are attractive opportunities in the markets we serve, and we are confident that by diligently pursuing our strategic objectives, ConnectOne is well-positioned for enhanced profitability and sustained success, which would also be amplified by the Fed lowering rates. As always, we appreciate your interest in ConnectOne, and thanks again for joining us today. Operator will now open the line for any questions.

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Q&A Session

Operator: Thank you. The floor is now open for questions. If you have dialed in and would like to ask a question, please press star one on your telephone keypad to raise your hand and join the queue. If you would like to withdraw your question, simply press star one again. If you are called upon to ask your question and are listening by a loudspeaker on your device, please pick up your handset and ensure that your phone is not on mute when asking your question. Again, press star one to join the queue. And your first question comes from the line of Daniel Tamayo with Raymond James. Please go ahead.

Daniel Tamayo: Thank you. Good morning, Frank and Bill. First, I guess, on the loan growth guidance, you mentioned you are going to be managing non-relationship balances off the balance sheet and then remixing or reducing the commercial real estate concentration. Just curious kind of how you are thinking about non-relationship balances that you have got right now? What that might look like in terms of run-off, and then on the other side, just where you are expecting to see growth, not in multifamily or commercial real estate?

Frank Sorrentino: Dan, it’s Frank. I would tell you that, we go through our portfolio on a one-by-one basis. It is not that we are looking at a spreadsheet of numbers. These are relationships or people that have promised us true relationships that consist of deposits and loans. In the cases, where we find that those things are not true or not to the point where we are comfortable with them, we have asked those people to look for other places to do their banking. In most cases, and part of the reason you saw the increase in deposits this quarter, we did get people to recommit some of their efforts to us. Part of that was because of a lot of disruption in the market, but part of it’s also just because we were out there asking the right questions and holding people accountable for what they promised us in the past.

We have always been a relationship bank here at ConnectOne, and so that means having a full relationship, which includes your deposits and your loans. But as you know, some people make promises. Were generally the type that put our best foot forward first. We trust everyone, and now we are in the verify part. If we don’t like what we see, we are asking people to move out. Very difficult to say with any certainty what the numbers would look like. That is a very general theme around the entire organization, and it is showing up in the numbers. We do have an emphasis today on, or have had for quite a while, on our C&I portfolio, and that is showing some results too, which is also showing up in the deposit growth numbers. There it is almost a guarantee that if we are taking on a C&I relationship, we are getting the deposits along with the loans.

We also, since our inception almost 20 years ago, we’ve always been pretty active in the construction marketplace. I like that business. My background is in it. We think there’s a lot of compelling projects around the New York Metro market that make a hell of a lot of sense, especially with the housing dynamics here, and we like the types of relationships that brings to the table. We’ve had a bit of a focus there as well.

Daniel Tamayo : I appreciate that, Frank.

William Burns: Daniel, it’s Bill. Just to give you some guidance on how we get to a growth rate, likely to see some decline in multifamily. And then overall, this would just be an educated guess here. It’s hard to be precise with these projections, but I’d see very low growth, anywhere from 0% to, say, 2.5% total growth in the portfolio, including declines in multifamily.

Daniel Tamayo: Okay. On the personnel side, I guess, given that shift, are some of these lenders historically just commercial real estate and or multifamily lenders? Are they going to be just shifting over to looking at construction and C&I and anything else or do you expect to be going out and looking to hire new lenders or teams to accelerate that growth?

Frank Sorrentino: I wouldn’t see it as a shift. I do think, we have expertise in particular areas, and we continue to maintain that expertise in the various verticals that we represent. I think it would speak more to who we’re hiring, what teams we’re enhancing or building or creating, as opposed to. I think, it’s hard to take somebody who’s been, whatever in one particular vertical and move them immediately to the other. I’m not so sure that’s the best way to go about it. But when we’re thinking about adding folks or people who have a desire to come to work for ConnectOne, we’ve gotten a lot of inbound calls. We’re picking and choosing the folks that will help expand the areas that we think make sense for us to expand and in the markets in which we hope to do that as well.

Daniel Tamayo: Okay. All right. Thanks. And then just a small one. The loan-to-deposit ratio, you said you’re going to manage that down. Obviously, the loan growth being close to flat will help do that. But do you have a target that you want to get to before the loan growth starts to ramp back up?

William Burns: I don’t want to really give a target out here, Dan, but rather say that we’re working towards reducing that ratio over time.

Daniel Tamayo: Okay. Fair enough. All right. Well, thanks for taking my questions.

Operator: Your next question comes from the line of Frank Schiraldi with Piper Sandler.

Frank Schiraldi: Good morning. Hey, Frank. Talk a little bit about growth into Long Island and continued growth in South Florida. I wonder if you could just talk a little bit more about your strategy and those two geographies and kind of where you guys are at this point in total loans-to-deposits?

Frank Sorrentino: Yeah. I’ll let Bill give you some actual figures. But Long Island has been — actually, both markets are what I consider to be adjacent markets, even though one of them has got 1,000 miles between us. But they’re adjacent in that, that’s where our clients either live or work or have business interests or are developing or whatever. And we find Long Island to be almost an exact mirror image of what we’ve created in the northern New Jersey market. We’ve been very successful in hiring some really terrific folks that represent that market in the way in which we go about doing business, that care about their clients. And we’re finding that, there’s not a whole lot of really strong competition in that Long Island market for that type of relationship business.