Pathward Financial, Inc. (CASH) Q3 2019 Earnings Report, Transcript and Summary

Ladies and gentlemen, thank you for standing by, and welcome to the Meta Financial Group Fiscal Year 2019 Third Quarter Investor Conference Call. [Operator Instructions] As a reminder, this conference call is being recorded. I would now like to turn the call over to Brittany Elsasser, Director of Investor Relations. Please go ahead.

Thank you, and welcome to Meta's conference call and webcast to discuss our financial results for the third fiscal quarter ended June 30, 2019, released earlier this afternoon. Additional information, including the earnings release and investor presentation, may be found on our website at metafinancialgroup.com. President and CEO, Brad Hanson; and Executive Vice President and CFO, Glen Herrick, will be sharing some prepared remarks today before we open up the call for questions. Today's call may contain forward-looking statements, including statements related to Meta and its operating subsidiaries, which may generally be identified as describing the company's future plans, objectives or goals. We caution you not to place undue reliance on these forward-looking statements, which are subject to risks and uncertainties that could cause actual results or outcomes to differ materially from those currently anticipated or that we otherwise discuss today. These forward-looking statements are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. For further information about the factors that could affect Meta's future results, please see the company's most recent annual and quarterly report filed on Forms 10-K and 10-Q and its other filings with the Securities and Exchange Commission. Forward-looking statements speak only as of the date on which they are made. Meta expressly disclaims any intent or obligation to update any forward-looking statements on behalf of the company or its subsidiaries, whether as a result of new information, changed circumstances, future events or for any other reason. At this time, I would like to turn the call over to President and CEO, Brad Hanson.

Thank you, Brittany. We are pleased to report our results for the third quarter of fiscal year 2019, including GAAP earnings of $29.3 million or $0.75 per diluted share. During the quarter, we continued to make progress on our 3 key initiatives we highlighted at the beginning of 2019 that we believe will drive profitable growth and shareholder value. Our key initiatives for the company include, increasing the percentage of balance sheet funding from core deposits, optimizing the earning asset mix of the balance sheet and improving operating efficiencies. More specifically, during the fiscal third quarter, average deposits from our payments division accelerated increasing 10.8% over the average for the same quarter in the prior fiscal year. We continue to focus on developing a pipeline for deposit growth and our payments business and other areas of the company. As a reminder, deposits generated from our payments division reflect lower cost funds. Our collaborative and consultative relationships with our payments providers generates trust, consistency and longevity. To that point, our top 5 payments relationships have been with us on average for over 10 years. Next, our earning asset mix continues to strengthen as a result of our lower investment portfolio balances combined with a growth in higher yielding commercial loans. Consequently, we generated growth in net interest income with our net interest margin increasing to 5.07% for the fiscal third quarter of 2019, compared to 2.94% in the comparable prior year quarter. We also continue to evaluate lending opportunities in our consumer finance space and are focusing on relationships with a high potential for strategic cross-selling opportunities, primarily with our payments business. As we have previously mentioned, we will be limiting our balance sheet exposure of consumer credit products to less than 15% of earning assets. Our third strategic priority is to further develop operating efficiencies within the company, which we intend to be an area of more specific emphasis in the year ahead. We believe that revenue growth, coupled with disciplined expense management will drive significant operating leverage across our business. We continue to evaluate our business and initiatives to ensure we are allocating the appropriate resources to those that drive the most value to the company and shareholders over time. Turning to capital management. We opportunistically repurchased shares under our recently announced share repurchase program. For the quarter, we repurchased nearly 1.6 million shares at an average cost of $27.31 per share. We maintained a strong balance sheet and have an opportunistic approach to repurchasing shares and will consider repurchase activity within the context of our overall capital management focused on maximizing shareholder value. Now let me turn the call over to Glen Herrick, our CFO, to provide a review of our fiscal 2019 third quarter financial results.

Thank you, Brad, and good afternoon, everyone. For the third quarter of fiscal 2019, we reported GAAP net income of $29.3 million, an increase of more than 4x the net income of the same period in the prior year, as earnings per share reach $0.75 per diluted share. Earnings growth from the prior year quarter largely reflects an increase in net interest income related to progress in optimizing the asset mix of our balance sheet led by the addition in ongoing growth of the commercial finance loan portfolio. We also originated $49.1 million in solar leases during the quarter, which enhanced our net income through investment tax credits. Though the timing and impact of future investment, tax credits are expected to vary, we expect the tax rate for 2019 to remain in the low single digits. Total gross loans and leases increased $191 million to $3.6 billion at June 30, up 6% from March 31, 2019. Our overall national lending portfolio more than quadrupled year-over-year, primarily as a result of the Crestmark acquisition. On a sequential quarter basis, the commercial finance portfolio grew by $170 million, or 10%, with strong growth across various lines of business, including insurance premium finance, asset-based lending and factoring, SBA and USDA loans. Our warehouse finance portfolio, which consists of consumer and small business receivables grew by $63 million, or 34%, driven by an addition of a highly secured consumer receivable warehouse line of credit. This quarter, the held-for-investment consumer loan portfolio grew by $10 million, or 3%, to $320 million and there were $46 million of consumer loans held for sale on the company's balance sheet. As Brad mentioned, we remain focused on consumer lending relationships that can provide strategic opportunities for our payments platform. I'd like to take some time to provide a brief overview of our commercial finance portfolio. Around this time last year, we closed on our acquisition of Crestmark Bancorp and Crestmark Bank. The acquisition provided us with a national commercial and industrial lending platform and allowed us to significantly add on balance sheet loans at attractive risk-adjusted yields. The breadth of our commercial finance product offerings, which includes factoring, ABL, insurance premium financing, leasing and government-guaranteed financing, provides a suite of solutions that most banks our size can't or don't offer. On Slide 11 of this quarter's investor deck, we provided some additional detail into certain aspects of the company's commercial finance portfolio. Our teams serve a diverse range of industries with customers nationwide, and we are active in industry trade associations, which aid the company in developing distribution sources. Our staff leverages extensive backgrounds in years of experience in banking and specialty finance across various economic and credit cycles. Additionally, on Slide 20, we provide an overview of our underlying credit philosophy as it relates to our commercial finance platform. During the third fiscal quarter, we continued to further enhance our earning asset mix and selectively sold lower yielding investment securities, reducing our average holdings by 6% on a linked-quarter basis and replaced them with higher yielding loans. Year-over-year, average investment securities on the balance sheet were down by over 28%. Conversely, average payments deposits grew by 10.8% compared to the same quarter in the prior fiscal year and now represent 59% of total average deposits. We earned net interest income of $67 million in the fiscal 2019 third quarter, an increase of 136% compared to the third quarter of fiscal 2018. Our net interest margin was 5.07% for the fiscal 2019 third quarter, up 213 basis points from the comparable quarter of fiscal 2018. While we have tailwinds in terms of the earning asset remix on the balance sheet, we do want to point out that purchase accounting accretion contributed 25 basis points to the net interest margin in the third quarter of fiscal 2019, and this contribution to NIM will run its course over time and will have minimal contribution to NIM in fiscal year 2020. This is the result of continued seasoning of the purchase loan and lease portfolio and the nature of the Crestmark loans and leases, which cause much of the purchase accounting accretion to be front-end loaded. Loan yields were 7.77% for the quarter compared to 8.05% for the previous quarter, and 4.90% for the third quarter of the prior fiscal year. Purchase accounting accretion added 37 basis points to loan yields in the third quarter and 29 basis points in the second quarter. Also of note, seasonal interest-bearing tax loans contributed approximately 10 basis points to the quarterly loan yield for the March quarter. Meta's provision for loan and lease losses was $9.1 million for the fiscal 2019 third quarter compared to $5.3 million for the third quarter of the prior fiscal year. The higher provision was primarily driven by growth in our commercial finance portfolio as well as provision expense to maintain appropriate overall allowance levels. Total net charge-offs were $14.3 million for the quarter, which included $9.6 million related to tax season loans. Our credit metrics remain within our risk tolerance levels as depicted on Slide 6 of the investor deck. Nonperforming assets represented 84 basis points of the company's total assets at June 30, 2019. Noninterest income was $43.8 million for the fiscal third quarter, up $10.6 million from the same quarter of fiscal 2018. The increase was largely driven by increases in rental income from the commercial finance division, gain on sale of loans and leases, other income and deposit fees. Turning to noninterest expense. The year-over-year increase continues to primarily reflect higher compensation cost as a result of the Crestmark merger. Other year-over-year drivers of noninterest expense included step-ups in operating lease equipment depreciation, occupancy and equipment and loan and lease expenses related to the Crestmark merger and subsequent activity. Finally, let me discuss our previously disclosed earnings per share outlook. For fiscal 2019, we are raising our adjusted earnings per share guidance to between $2.66 and $2.81. This compares to earnings per diluted share of $1.67 for fiscal year 2018, reinforcing the earnings power of the combined franchise following the Crestmark merger. Importantly, our adjusted EPS guidance excludes last quarter's $0.12 of nonrecurring executive transition agreement cost and $0.17 related to the DC Solar after-tax net noncash charge to earnings. We expect GAAP earnings per share for fiscal 2019 to be in the range of $2.37 to $2.52 per diluted share. With that, I'll turn the conversation back to Brad for closing comments.

Thanks, Glen. To recap, we are pleased with our results for the fiscal third quarter and the progress we've made thus far towards our 3 key strategic initiatives of growing our core deposit base, optimizing our interest earning asset mix and improving operating efficiencies. We believe these strategies will continue to drive sustainable and profitable growth and shareholder value over time. That completes our prepared remarks. So I'll ask Glen to join me for Q&A. Operator, please open the line for any questions.

[Operator Instructions] And our first question is from Frank Schiraldi with Sandler O'Neill.

Just want to start with the balance sheet strategy. And again, I know you guys talked in the past about the mix shift and the fact that the balance sheet should remain sort of flattish, and it has. I'm just wondering, going forward, does that continue to be the plan for the next, call it, 12, 18 months? So basically, we just see this mix shift on the asset side. And then, I guess, on the other side of the balance sheet, you just see wholesale slowly shrink as you replace it with core deposits?

Frank, this is Glen. As we indicated earlier, we would not expect the overall balance sheet to grow significantly in the near term, so let's say, the next 4 to 6 quarters. Depending -- there could be some movements from quarter-to-quarter, but we still have a large securities portfolio that per our strategy, we'll decrease that down to the 15% to 20% of earning assets and replace that with primarily commercial finance loans, and so as those commercial finance loans grow, we'll let the securities portfolio run off.

And just follow-up to that, the commercial finance, obviously, was quite strong in the quarter. I would imagine that rate of growth comes down just as it normalizes, but as we think about sort of getting into the late innings of the cycle, with the commercial finance, would you expect that to slow, or as others maybe look to exit that business and Crestmark maybe does it, has a better mousetrap, does all simple -- could commercial finance even accelerate? I'm just trying to see how we would think about that.

Well, we're pleased with the way that commercial finance division is operating today. We're comfortable with their practices and their underwriting standards. And we believe that historically, some of these downturns have created opportunities for the division. So we look at it very optimistically that we're well positioned for any economic environment.

Okay. I mean, is there a rate of growth that you would say is norm -- I mean, when you guys closed the deal, I think it was like 15%. I'm not sure if just based on what we've seen over the last couple of quarters, you think future quarters -- for future quarters you would ratchet that up or not?

Well, I think you're right. The rate of growth, we don't see that being sustainable long term as just the larger numbers, the denominator becomes larger, we would expect the rate of growth to come down, part of it will be where the market's at, and we don't have a volume goal per se. We have return level goals. And we -- the balance sheet is as big as we need it to be. And so that's how we will do it. I would also note within the commercial finance portfolio and overall platform, a number of different products that depending on the market have some counter cyclicality to them as well. So perhaps right now you see high growth in factoring, next quarter maybe it's more SBA growth. So we have a number of tools to serve these customers and small businesses.

Okay. And then, if I could just finally on the margin, 11 basis point, I think cost of deposits if you exclude the wholesale, I think is what you note. Not a lot of room for that to move lower, but you still do have pretty significant wholesale deposit balances. So -- I understand certainly the mix shift continues. Just wondering your thoughts on, all else equal what a 25 basis point move down in the Fed funds rate would sort of cost you all in on margin?

Yes. So I'd point you to our 10-Q from 3/31, the March quarter, and you note there that we are slightly asset sensitive at the end of March, and we are less asset sensitive today than we were at the end of March. Our 10-Q would be filed the middle of next week, and so not a material impact as well as we have a number of levers to manage interest rate risk with our sizable securities portfolio today. And I would note the current forward rate curve was incorporated into our guidance range.

And our next question comes from Michael Perito with KBW.

Glen, I want to start on the expense side. The number, $72.5 million, I think was down, obviously, significantly from last quarter, which I know has some seasonal expenses but it looks like it was down also from the first fiscal -- first quarter. Any insight? I know you guys have the -- better than 65% operational efficiency target, but just I guess, more specifically any insight on kind of as you head into the last quarter of the fiscal year and have a better sense of accruals and what not, where that expense number could trend near term here?

Sure. We're really happy with progress we're making in expense management and overall efficiency. And very happy with the expense discipline here in the third quarter. I would say the June quarter is historically a low expense quarter for us. The absolute run rate that you saw in this quarter, I would expect the absolute level of spending to increase in the coming quarters, but at a slower pace than the increase in revenue growth.

Okay. So basically on a quarterly basis moving forward, you expect to be generating positive operating leverage pretty consistently with the focus you guys have on the efficiency side with the three strategic objectives?

Yes, that's correct.

Okay. And then on the consumer side, I was just curious if you've seen any differences in demand for sales in that marketplace recently? Or you still -- I mean -- and also just overall, I mean, if that does alter, what kind of capability do you have to kind of limit production as to kind of keep within the confines of the balance sheet parameters that you set with the 15% limitation on consumer mix?

I'm sorry, Mike your first part of the question was have we've seen change in demand for sales?

Yes, on the consumer side, you guys are -- you considered from time-to-time selling some of that production, correct?

Yes, we have not been actively selling production at this point. So I really don't have any comment on the demand for those sales. We've really been disciplined on managing the growth and focused on improved operating efficiencies and capabilities within those portfolios and making sure that we're well positioned to manage those appropriately going forward. So our growth has been slower than we probably led on a year ago, but it's really because we took a step back and wanted to really make sure that we took a very disciplined approach to how we manage and grow that business. So we haven't really been in the market selling. We do have many levers though to stop production based on numerous triggers or slow production as the case may be. So we feel very comfortable with our current programs and where they're leading us into the coming quarters.

Helpful. And then just lastly on the buyback, I think it sounds like there is an appetite to continue going forward, maybe not quite to the level in this quarter, but I mean, is it fair to assume that you guys are still in the market given the price of the shares today or is still fairly close to the average purchase price that you disclosed for the fiscal second quarter?

We publicly said we had two million share authorization, and we've purchased almost 1.6 million under that plan. We plan to provide any updates on these quarterly calls and releases to the market. But we do plan to be prudent with the capital levels and we finally have strong capital levels, but we've also said we're going to focus more on returns than balance sheet growth. And so, if our aspirations are to have over 2% ROA, that clearly is going to generate excess capital and when and if that happens, we'll look at all options to efficiently manage our capital levels and share counts.

And our next question comes from Steve Moss with B. Riley FBR.

I want to follow up on the expenses here, in particular, just the efficiency ratio. You guys have a 65% -- sub- 65% target on a full year basis. It looks like given growth in the consumer -- on the commercial finance side and your trends here so far this year, you could really be well below that especially into the next fiscal year. Just wondering, will you be updating that target or how should we think about that going forward?

Sure. We've set a couple of aspirational goals. We did not put a deadline to those. Our plan would be to continue to provide updates for that, and we would expect to be in a position at next quarter as we put a ball on our fiscal year to provide you an update on those goals where we're at and perhaps an outlook on the timing there.

Mike, we're trying to make -- oh, Steve, oh god, we changed them, sorry. We're trying to make sure we have a very disciplined approach to our expense management; however, we're willing to make investments where it's needed or necessary in order to make sure we're properly managing the bank and able to support the growth in some of these areas. So I think like Glen said earlier about the operating leverage in the coming quarter is probably the best way to think about that expense management.

Okay that's clear. And then on the commercial finance side, obviously, another good quarter, just wondering looks like the yields are around 10%. Is it still generally mostly small ticket that you're seeing, kind of what's the average size and any color you give around the pipeline here in the short term?

Yes, we haven't disclosed any specific loan portfolios, but the overall commercial finance book at merger with Crestmark was in mid-couple-hundred-thousand dollar range average ticket, obviously, some are larger, some are smaller, but that mix hasn't changed dramatically since we came together as one company.

Okay. And then my last question. Just wondering about the tax rate more for fiscal 2020, how we should think about that?

Sure. We're -- based on what we know today, we would expect our tax rate to be low double digits in fiscal year '20. There is a slight step down in the investment tax credits or the majority of the investment tax credits that we do. And that's our current expectation for fiscal year '20.

And our next question comes from Daniel Cardenas with Raymond James.

So just a quick follow-up question on the margin. I think you said you expect your yield accretion to kind of be worked through the remainder of this year, I guess, next quarter and then essentially disappear in 2020, correct?

Correct.

All right. So what -- I guess, what's left in terms of accretion for Q4? What kind of contribution can we expect to potentially see?

Yes, it'll continue to trend down each quarter. We haven't provided specific guidance to that piece of the geography. We're comfortable with our -- we'll have a couple moving pieces. The accretion will continue to decline over the next couple -- next 2 quarters primarily, and -- but our balance sheet mix will improve. So I think we're comfortable that NIMs could stay plus or minus to where they're at today and then in fiscal -- when we get into the second half of fiscal year '20, that we think we would have some additional tailwinds then after that accretive portfolio has run off to improve NIMs a little bit further in the second half of '20.

Okay. Excellent. And then maybe just a quick question on credit quality notice that your nonperformers jumped up about $10 million on a linked-quarter basis. I think that's still kind of manageable, but maybe a little bit of color as to what drove that increase?

Sure. A couple commercial finance portfolio relationships moved to nonperforming. It's not unusual, kind of move in and out of there. You recall -- as you will recall, those are all well collateralized relationships, and really, we don't have any concern about the overall credit quality. Again, 84 basis points overall, more than half of that 84 is related to the large agricultural OREO that we previously discussed and which we're currently marketing.

Okay. And any update you can give us on that large ag OREO?

Not at this point, beyond we're actively marketing it today.

And that concludes the question-and-answer session. I will now turn the call back to CEO, Brad Hanson.

Thank you. I'd like to thank everybody for participating in our quarterly Investor Call. We really appreciate all your support and hope you have a great evening.

And with that, ladies and gentlemen, we conclude the program. You may now disconnect. Have a great day.