MidWestOne Financial Group, Inc. (NASDAQ:MOFG) Q4 2024 Earnings Call Transcript

MidWestOne Financial Group, Inc. (NASDAQ:MOFG) Q4 2024 Earnings Call Transcript January 24, 2025

MidWestOne Financial Group, Inc. beats earnings expectations. Reported EPS is $0.77, expectations were $0.718.

Operator: Good morning, ladies and gentlemen, and welcome to the MidWestOne Financial Group Incorporated Fourth Quarter 2024 Earnings Call. During today’s presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be opened for questions with instructions to follow at that time. As a reminder, this call is being recorded. I would now like to turn the call over to Barry Ray, Chief Financial Officer of MidWestOne Financial Group.

Barry Ray: Thank you, everyone, for joining us today. We appreciate your participation in our earnings conference call this morning. With me here on the call are Chip Reeves, our Chief Executive Officer; Len Devaisher, our President and Chief Operating Officer; and Gary Sims, our Chief Credit Officer. Following the conclusion of today’s conference, a replay of this call will be available on our website. Additionally, a slide deck to complement today’s presentation is available on the Investor Relations section of our website. Before we begin, let me remind everyone on the call that this presentation contains forward-looking statements relating to the financial condition, results of operations and business of MidWestOne Financial Group, Inc.

Forward-looking statements generally include words such as believes, expects, anticipates and other similar expressions. Actual results could differ materially from those indicated. Among the important factors that could cause actual results to differ materially are interest rates, changes in the mix of the company’s business, competitive pressures, general economic conditions and the Risk Factors detailed in the company’s periodic reports and registration statements filed with the Securities and Exchange Commission. MidWestOne Financial Group, Inc. undertakes no obligation to publicly revise or update these forward-looking statements to reflect events or circumstances after the date of this presentation. I would now like to turn the call over to Chip.

Charles Reeves: Thank you, Barry. Good morning, and we truly appreciate everyone joining for this quarter’s call. Today, I’ll provide a high level overview of our fourth quarter results as well as highlights regarding the continued execution of our strategic initiatives. Len will provide an update on our lines of business, and Barry will conclude with a more detailed review of the fourth quarter and the impact of October’s balance sheet repositioning. We’re very pleased with our fourth quarter results, which exhibited the dramatic impact of the bond portfolio repositioning and the paydown of higher cost borrowings. Those actions, combined with lower deposit costs drove a 92 basis-point improvement in our net interest margin leading to a 30% quarter-over-quarter increase in net interest income.

This along with continued focus on our strategic initiatives, led to net income of $16.3 million and a return on average assets of 1.03%. Turning to the continued execution of our strategic initiatives. Our premium deposit franchise showed its strength with total deposits increasing 2% compared to the linked quarter. And importantly, non-interest bearing deposits grew 4% on a linked quarter basis aided by our year-long investments in treasury management. In April of 2023, we laid out a strategic plan with emphasis on driving wealth management and establishing an SBA vertical. The results of these initiatives are seen in our fourth quarter and full year financial results which Len will discuss further in his comments. For the quarter, loan growth was flat primarily due to elevated payoffs, many of which were loan resolutions and you see the classified assets decreased substantially.

We’re pleased with our 2024 asset quality metrics and remain focused on problem loan resolutions while we continue with our disciplined growth strategy. Thank you to our team members who have been resolute in the transformation of MidWestOne and in their commitment to our customers. Together, we’ve positioned the bank to become a consistent high performing company, and we look forward to the opportunities in 2025 and beyond. Now I’ll turn the call over to Len.

Len Devaisher: Thank you, Chip. We are pleased with the 2% increase in total deposits from the linked quarter. The true power of our deposit franchise was on display with an improving mix. Continued strength in our commercial and consumer deposit segments has allowed us to assume a more conservative pricing posture on public funds. For the year, public funds in total were down 14%, while public funds CDs were down 40%. Meanwhile, consumer balances were up 2% and commercial balances were up 6%. This mix improvement reflects an intentional strategy to optimize our funding base. As Chip pointed out, non-interest bearing deposits increased 4% in the quarter. This is the second consecutive quarter of increase in this important category.

And the increase was across all customer segments. For the year, commercial non-interest bearing deposits increased 7%. The growth in commercial non-interest bearing reflects our treasury management focus where fees were up 12% in 2024 from the prior year. While reported loan balances were flat from September 30, we were pleased that pass rated loan balances grew at a 4% linked quarter annualized rate, and that our fourth quarter commercial originations exceeded third quarter originations by 8%. Favorable borrower sentiment and growing pipeline activity position us well for 2025. We anticipate mid-single digit loan growth in the first quarter. As Chip pointed out, the 54 basis-point decline in our classified loan ratio, 150 basis-point improvement from a year ago, a decline in past due loans and a modest CRE ratio at 224% of capital reflect our vigilant focus on asset quality.

Congruent with our strategic plan initiatives, our SBA team generated more than $1.6 million of SBA gain on sale revenue in 2024 with $630,000 accurring in the fourth quarter. The momentum in this business remains strong as we enter 2025. Another strategic plan initiative is a focus on wealth management. The 11% increase over the linked quarter and the 18% increase over the same period last year demonstrate continued momentum from our Private Wealth and Investment Services teams. Our team-based planning-driven approach is working. And we see runway in that business particularly in our growth markets. Deposit growth was an improving mix. Green shoots in loan demand with plenty of capacity, momentum in our fee businesses, including wealth, SBA and treasury management.

Indeed, MidWestOne’s business lines are well positioned as we launch into 2025. So with that, I’m pleased to turn the call over to Barry.

Barry Ray: Thank you, Len. Starting with the balance sheet on Slide 11. Total assets declined $316 million from September 30, 2024, due primarily to the deleveraging of our balance sheet from the repositioning executed early in the fourth quarter. As a reminder, that repositioning included the sale of $1 billion of securities, primarily corporates, munis and CMOs that had a book yield of 1.58%. Proceeds from the sales were used to pay in full for an $418.7 million of Federal Reserve Bank term funding program borrowings that were costing 4.77% and to purchase $590 million of agency CMO and pass through securities yielding 4.65%. Len covered the loan and deposit changes, so I’ll touch on shareholders’ equity, which decreased $2.5 million from September 30, 2024 to $560 million as an unfavorable $14 million adjustment to accumulated other comprehensive loss was only partially offset by an $11 million increase in retained earnings.

The company’s consolidated CET1 ratio was 10.73% at year-end 2024, up 82 basis points from September 30, 2024, reflecting in part benefits from the balance sheet repositioning. Turning to the income statement on Slide 13. We reported net income of $16.3 million or $0.78 per diluted common share. Net interest income increased $11.4 million in the fourth quarter to $48.9 million as compared to the linked quarter due primarily to higher earning asset yields and lower funding volumes and costs partially offset by lower earning asset volumes. Loan interest income in the fourth quarter of 2024 included $2.5 million of loan purchase discount accretion compared to $1.4 million in the linked quarter. We expect quarterly loan purchase discount accretion in 2025 to be closer to $1 million.

Our tax equivalent net interest margin increased 92 basis points to 3.43% in the fourth quarter compared to 2.51% in the linked quarter. As earning asset yields increased 60 basis points and the cost of interest bearing liabilities declined 35 basis points. The average loan portfolio yield for the fourth quarter was 5.86% flat from the linked quarter while the average yield on loan originations during the fourth quarter was 7.10%. On the liability side, the cost of interest bearing deposits decreased 17 basis points from the linked quarter to 2.41%. We expected the balance sheet repositioning would add about 70 basis points to our net interest margin, and we were pleased to exceed that expectation as our core interest margin, which excludes loan purchase discount accretion expanded to 3.26% for the fourth quarter, 85 basis points greater than the linked quarter.

Non-interest income in the fourth quarter of 2024 was $10.8 million compared to a loss of $130.4 million in the linked quarter. Adjusting for securities gains and losses and mortgage servicing right valuations, non-interest income was down $300,000 as outperformance from our wealth management business was more than offset by declines in other BOLI loan and card revenue. Finishing with expenses. Total non-interest expense of $37.4 million in the fourth quarter was up $1.6 million from the linked quarter. Driving the unfavorable variance was a $575,000 increase in medical claims paid, a $400,000 increase in non-merger related legal costs and a $300,000 increase in property tax accruals. We do not believe such costs will continue at those levels in 2025 and thus expect our 2025 annual expenses will be in the range of $145 million to $147 million.

And with that, I’ll turn it back to the operator to open the line for questions.

Operator: Thank you. We will now open the call for questions. [Operator Instructions] Our first question today will be from the line of Brendan Nosal with Hovde Group. Please go ahead. Your line is open.

Q&A Session

Brendan Nosal: Hey. Good morning, everybody. I hope you’re doing well.

Barry Ray: We’re good, Brendan. Hi.

Brendan Nosal: Good. Maybe to start-off here on capital. Now that the balance sheet restructuring is behind you, you’re back to building capital at a pretty decent clip here. So just wondering how you’re thinking about deployment options over the course of the year.

Barry Ray: Yeah. I’ll start with that, Brendan. This is Barry. I like to talk about the use of capital waterfall. So starting with supporting loan growth — supporting balance sheet growth, then the cash dividend to shareholders, share repurchase and then finally, M&A. We are approaching — we’re at or kind of approaching that target of 11% CET1. We think that’s a good ratio for the risk profile of our organization. And I expect that waterfall that I just walked through is how we’re thinking about it. Obviously, we kept the — for example, we kept the dividend flat this quarter, of as we move forward throughout the year and build capital, we’ll see where we land with respect to opportunities, but and what we want to do with capital deployment as we go through the year.

Brendan Nosal: Got it. Okay. Maybe moving to the margin. I mean, as you noted in your prepared remarks, quite a bit more expansion than you or we were expecting, which was great to see. Just kind of curious about the path from here, especially as rate cut expectations have eased off a little bit and more or less wondering if this quarter was a pull through of margin expansion you had expected to persist throughout 2025 or if there’s more left in the tank as we move through the year? Thanks.

Barry Ray: Yeah. I think there’s a little bit more left in the tank, Brendan, and the kind of the data points I can give you is we highlighted that our core margin in the fourth quarter was 3.26%. If you look at the month of December, the core margin was 3.29%. So I think we got a little bit more gas in the tank with respect to margin expansion, particularly as we’re getting some benefit from the shape of the yield curve, which is really, I’d say, mostly flat here, but yeah, I think we still have some benefit here.

Charles Reeves: And Brendan, this is Chip. I think the back book loan repricing frankly continues as well. Our loan yields are 5.86% that includes some accretion in that 5.86%, but we’re originating in the fourth quarter in the low 7s. So we believe that will continue. And so we have a fair amount of maturity still coming to us in ’25, ’26. So we believe there’s still some — you call it gas in the tank margin expansion to come.

Brendan Nosal: Okay. Fantastic. That’s helpful. Thank you for taking the questions.

Barry Ray: Thanks, Brendan.

Operator: The next question today will be from the line of Terry McEvoy with Stephens. Please go ahead. Your line is open.

Terry McEvoy: Thanks for taking my questions. In 2024, commercial loan growth was 5%, wealth management revenue 16% year-over-year. I know you said 5% loan growth for the first quarter, but is that a good run rate to use for full year loan growth and what are your thoughts on the outlook for fee income and specifically that wealth management line?

Len Devaisher: Terry, this is Len. Thanks for the question. Yeah, as we look at 2025, I think the mid-single digit number is a — is how we’re modeling the year just based on what we’re seeing overall. And with respect to wealth in particular, we are targeting the double digit growth to continue in that line of business. So and the key strategy there for us is the talent story of where we’re adding and particularly in the growth market.

Charles Reeves: And Terry, this is Chip. And on the loan growth side, mid-single digits and that belly of the curve with where it is today and obviously increased in the fourth quarter, slight pullbacks here in January, but still relatively high. We’re just not seeing really commercial real estate projects penciling out at this juncture. So where I could see that potentially moving higher is if the belly of the curve comes down a little bit. But right now that’s negating some of the potential growth that’s out in the system.

Terry McEvoy: Thanks, Chip. And then as a follow-up, just given the tariff talk and some of the volatility in commodity prices, could you share with us your thoughts on how your Ag customers and portfolio is holding up?

Gary Sims: Okay. Yes, Terry. This is Gary Sims. Thanks for the question. We are thinking through that as well as you relative to our Ag producers and as a reminder, not an overwhelming part of our portfolio, but certainly something that we monitor. As we look into 20 — well, first of all, 2024, pretty solid year for our producers. Prices were somewhat moderated but very good yields. And as we go into 2025, we see pressure as a result of some of these issues. But one thing that we really gained confidence in is that over the course of the past five or six years, the portfolio of our producers that we do business with is a pretty resilient bunch. So we feel pretty confident that we can help our customers manage through this if in fact there are negative results from.

Terry McEvoy: Great. Thanks again for taking the questions. Appreciate it.

Barry Ray: Thanks, Terry.

Operator: The next question today will be from the line of Damon DelMonte with KBW. Please go ahead. Your line is open.

Damon DelMonte: Hello, everybody. I hope you’re all doing well today. I just wanted to start off with a little bit on credit and kind of — I know Gary was just kind of touching on the Ag sector there, but just kind of your thoughts on where the portfolio sits today, if there’s any areas of concern and kind of how you think about the reserve level? At this point, I think the reserve is up a few basis points quarter-over-quarter. So do you feel like you’re at an adequate level or do you feel you need to maybe add a little bit more going forward? Thanks.

Gary Sims: Thanks for the question, Damon. And what I’m seeing from the portfolio today in terms of pressure points really hasn’t shifted much over the course of 2024 and going into 2025. Office still has deterioration that we have identified in it. Our senior living portfolio has deterioration, but we’re actually seeing improvement, operational improvement in those borrowers that have struggled. And realistically, our largest senior living troubled asset, we were able to liquidate over the course of third and fourth quarters. So not a lot of shift in terms of what I’m seeing with pressure points. As we move into 2025, as we saw in 2024, as we identified the credits, we worked through them, we created resolutions and you saw the results that we got for the fourth quarter.

First quarter and beyond, we’re going to continue to see resolutions of those assets that we have identified. You mentioned the reserve. We did move that up a little bit. And we feel like what we have on tap for first quarter and beyond for resolutions, we are adequately reserved to be able to execute those resolutions. So I think what you saw in 2024, you’re going to continue to see in 2025.

Damon DelMonte: Got it. Okay. That’s helpful. Thank you. And then I guess just kind of a broader base question on your approach for driving sustainable organic growth. Now you guys have made a lot of investments in commercial bankers and kind of ventured into some other business lines. Chip, can you just give us an update as to the plans for ’25? Are you guys still actively looking to add new bankers and potentially physical locations in other parts of your footprint?

Charles Reeves: So Damon, the answer to that one is — would be yes, and I’ll quantify the yes probably more from geographic areas or areas of focus for you. Twin Cities and Denver and then Iowa Metro are high focus areas for us. And I think you’ll continue to see us invest in those geographies. You’ll also see us continue to invest frankly in what I call our infrastructure and our acquisition readiness and there from technology, from platform to talent risk management, platform talent, operational talent as we prepare ourselves for ’25 being a year of execution. But between our capital levels, our newfound earnings profile, organic growth that we’re expecting, I believe we’re positioning ourselves to become a little bit bigger when the time is right.

Damon DelMonte: Got it. Okay. Appreciate that color. That’s all that I had for now. I’ll step back. Thank you.

Charles Reeves: Thanks, Damon.

Barry Ray: Thanks, Damon.

Operator: Our next question will be from the line of Nathan Race with Piper Sandler. Please go ahead. Your line is open.

Nathan Race: Good morning, guys. Thanks for taking the questions. Going back to the margin discussion. Chip, you mentioned some of the back book repricing. I was wondering if you could kind of frame up just in terms of how much in loans you guys have kind of repricing over the course of this year.

Charles Reeves: And Nate, I’m going to swing that one to Barry. He has — yeah. He has the detailed statistics.

Barry Ray: Yeah, Nate. We’ve got $386 million of fixed rate loans that we expect to reprice in over the course of the next 12 months. The coupon on those is 4.57%. So $386 million at 4.57% is what we expect to reprice.

Nathan Race: Okay. And then just generally, what are new loans coming on the portfolio at today? On a blended basis.

Barry Ray: Yeah, fourth quarter, we put them on at 7.1%, so low 7s.

Nathan Race: Got you. Yeah. And if the Fed remains on pause this year, can you kind of just talk us through kind of the CD repricing gaps that you have that could aid in deposit costs continuing to come down and if there’s any opportunities to lower pricing on non-CD products as well, at least over the next quarter or two.

Barry Ray: Yeah. Most of — most of our CD book, Nate is less than one year. And so yeah, we see opportunity, even if the Fed remains on pause to lower the cost of that book as that comes due. And then to the second part of your question, we continue to look at our other non-maturity interest bearing deposits and where we have opportunity to lower there, so. We’re still actively looking at those costs and looking for pockets to where we could perhaps lower costs even if the Fed remains on pause.

Nathan Race: Okay. And just one last one, Barry, could you just update us in terms of kind of the balance sheet sensitivity and margin impact from each if the Fed does cut this year?

Barry Ray: Well, right now, our balance sheet models as asset sensitive with the shock scenarios, Nate. And so — and again, that’s plus or minus 100 parallel shock. And so we model as asset sensitive. So if the — if the rate is cut that suggest that our net interest income would go down in that shock scenario. However, as I talked about earlier, what we’re observing is actual oil (ph) the yield curve flattening out. And so I think there’s still opportunity for margin expansion. But the balance sheet models as asset-sensitive on a shock scenario.

Nathan Race: Okay. Really helpful. I appreciate all the color. Thanks, guys. Congrats on a nice quarter.

Barry Ray: Thanks, Nate.

Operator: [Operator Instructions] And the next question will be from the line of Brian Martin with Janney Montgomery Scott. Please go ahead. Your line is open.

Brian Martin: Hey. Good morning, guys.

Barry Ray: Good morning, Brian.

Brian Martin: Hey, Barry. And if you covered this, I apologize. Did you give us some thoughts on kind of the — I know you talked about the fourth quarter expenses, but just how to think about the expense run-rate as we kind of head into ’25 here and just puts and takes there?

Charles Reeves: Yeah. In my prepared remarks for the script, Brian, I did talk about what we expect for 2025 expenses to be in the $145 million to $147 million range for the year, which would suggest $36 million to $37 million per quarter for the expense run rate.

Brian Martin: Got you. Okay. I apologize for that. And then just in terms of fee income, Chip, I don’t know, can you give — it sounds like the SBA really had a nice year here kind of embedded in the mortgage line or the loan line there. I mean, it also kind of seems like that the mortgage side, the traditional mortgage maybe has kind of been flattish. So I guess just trying to understand if I’m thinking about that right. And the other real question is just kind of the areas you talked about in terms of initiatives on the fee side as far as expanding fee income going forward. Can you just talk about outside of — you’ve talked about the wealth and the SBA kind of the other business lines you’ve added this year, kind of what they’ve contributed or just kind of where the opportunity is as we think about fee income next year outside of wealth that you’ve already covered, but just fee (ph) in SBA.

But the other line items are potential that we have that get some pickup here.

Len Devaisher: Okay. Brian, this is Len. I’ll take a stab at that. So if you look at SBA as an example, so that number was 1.6 for us in ’24, about four times what it was in ’23 — over four times what it was in ’23, and two — if you look back, two-thirds of that number came in the last two quarters. So see good momentum there. So that’s a key point on the loan line item as you point out. The other thing is, obviously, the mortgage — residential mortgage business has headwinds with the rate environment where it’s been. But what I would tell you is one of the strategies tactically is to focus on leveraging our secondary market product offerings to make sure we’re optimizing that as best we can. That when I look at drivers, wealth obviously was a huge story for us in ’24, and I’ve talked about that.

We seek more runway there. And then treasury management, the 12% number, which flows through the service charge line as 12% in ’24 over ’23 and I see more runway for us in the treasury management line as well. Then lastly, what I would tell you is as Chip talked about, as borrowers get a little more confidence and a little more stability relative to CRE, I think our CRE business, we’ve got room to go there, right, when you just look at our CRE power and I think that can help drive our swap line because that’s frankly been a modest line for us the last — these last couple of years. And I think as the CRE business picks up, I think that can help drive the swap line too from a fee perspective. So those would be the drivers I would see.

Brian Martin: Got you. And Len, can you talk about — I mean, I guess, just give some color, put — in terms of the outlook for growth in fee income? I guess in terms of how you guys are thinking about that, given some of the items you just went through in terms of where the momentum may be.

Len Devaisher: Yeah. So I’m going to say mid high single digits is what we would be on a total for the fee income line is what we’d be looking at for ’25.

Brian Martin: Got you. Okay. That is helpful. I appreciate that. And Barry, just last thing back to just the margin for one moment. The trajectory on the margin given the steepening of the curve here and just kind of a little bit of tailwinds you have, if we don’t see — if we see a pretty not much activity from the Fed, the general outlook should be that given what you’ve outlined that maybe a gradual trajectory in the margin kind of throughout the year, is that how to kind of frame that up?

Barry Ray: That’s how I would frame it up, Brian, exactly like that. Yeah. Gradual over the course of the year.

Brian Martin: Okay. And maybe a bit of a step down in 1Q if the accretion — I think you said the accretion goes back to around $1 million a quarter. Is that that — I think, I heard that right. Yeah, the giveback starts in the first quarter.

Barry Ray: Yeah. That’s kind of how I would — if I start thinking about the first quarter, that’s kind of where we talked about the — that’s why I was focusing on the core net interest margin, Brian, of 3.26 and so you start there and layer-in the — layer-in that kind of $1 million plus of discount accretion or about $1 million of discount accretion per quarter, and that should get you to kind of a launch point.

Brian Martin: Got you. Perfect. Thanks. And I don’t know, just big picture comment in terms of profitability. I think obviously, you guys were above 1% on the ROA in the quarter. As we think about an kind of an exit to 2025, Chip, can you kind of talk about where you think that exit is on ROA or just kind of how we should be thinking about that as we proceed through the year?

Charles Reeves: Yeah. We’re extremely focused, Brian, in terms of obviously building that throughout the year and what we anticipate is that, that has the potential with execution to be in the 110 to 115 range as we exit 2025.

Brian Martin: Got you. Okay. Perfect. Thanks for taking the questions and congrats on the quarter, guys.

Charles Reeves: Great. Thanks, Brian. Appreciate it.

Operator: The next question will be from the line of Nathan Race with Piper Sandler. Please go ahead. Your line is open.

Nathan Race: Yeah. Thanks for taking the follow up. I’m just curious if you can kind of frame up your deposit growth expectations for this year. I know you guys are focused on adding full relationships, but just curious if you’re expecting deposit growth to follow that kind of mid-single digit pace in loans.

Barry Ray: Yeah, Nate. This is Barry. I’ll take that. Kind of as we have been looking at deposit growth expectations for the year 2025, we’re thinking around 3% is probably what we’re looking at for deposit growth.

Nathan Race: Okay. Great. That’s helpful. And then, Barry, can you just update us in terms of the amount of cash flow coming off the bond book this year following the restructuring?

Barry Ray: Yeah. Next, we expect to bid — get around $200 million of cash flows off of the portfolio in 2025, Nate.

Nathan Race: Okay. Great. I appreciate it. Thanks, guys.

Barry Ray: Great. Thanks for the follow up.

Operator: We have no further questions in the queue at this time. So I would now like to hand the call back to CEO, Chip Reeves for closing remarks.

Charles Reeves: All right. Thanks everyone for joining us today, and we truly look forward to our April call to share our continued progress in becoming that consistent high performing company that we’ve spoken about over the last few years and began to demonstrate even further with our fourth quarter results. Thanks, everyone.

Operator: This concludes today’s conference call. Thank you all for joining. You may now disconnect your lines.