Good day, everyone, and welcome to the First Internet Bancorp earnings conference call for the first quarter of 2024. [Operator Instructions] And now, I would like to turn the conference over to Larry Clark from Financial Profiles, Inc. Please go ahead, Mr. Clark.

Thank you, Sylvie. Good day, everyone, and thank you for joining us to discuss First Internet Bancorp's financial results for the first quarter of 2024. The company issued its earnings press release yesterday afternoon, and it's available on the company's website. In addition, the company has included a slide presentation that you can refer to during the call. You can also access these slides on the website. Joining us today from the management team are Chairman and CEO, David Becker; and Executive Vice President and CFO, Ken Lovik. David will provide an overview, and Ken will discuss the financial results. Then we'll open the call to your questions. However, before we begin, I'd like to remind you that this conference call contains forward-looking statements with respect to the future performance and financial condition of First Internet Bancorp that involve risks and uncertainties. Various factors could cause actual results to be materially different from any future results expressed or implied by such forward-looking statements. These factors are discussed in the company's SEC filings, which are available on the company's website. The company disclaims any obligation to update any forward-looking statements made during the call. Additionally, management may refer to non-GAAP measures, which are intended to supplement but not substitute for the most directly comparable GAAP measures. The press release available on the website contains the financial and other quantitative information to be discussed today, as well as the reconciliation of the GAAP to non-GAAP measures. At this time, I'd like to turn the call over to David.

Thank you, Larry. Good afternoon, everyone, and thanks for joining us today as we discuss our first quarter '24 results. Those of you who regularly attend these meetings will recall that 2 quarters ago, we called the bottom. In late October, we predicted the third quarter of 2023 would mark the low point for net interest margin and net interest income. We also estimated net interest margin would turn higher from there, regardless of whether or not and at what pace the Federal Reserve chose to start reducing short-term interest rates. Since then, and despite ongoing uncertainty around the future monetary policy and continued volatility in long-term rates, we have now reported 2 consecutive quarters of strong earnings growth and improved profitability, driven in a large part by the recovery in our margin and growth in net interest income that we had projected. This quarter's results continued to demonstrate the meaningful progress we've made repositioning the loan portfolio and optimizing our overall balance sheet mix, while keeping deposit costs in check and improving our interest rate risk profile. Starting with the highlights on Slide 3, I'd like to discuss some of the key themes for the quarter. As I just noted, we continued to transition the composition of our loan portfolio and optimize both sides of the balance sheet. We experienced strong deposit growth during the quarter and deployed a portion of the liquidity to drive net loan growth of $70 million, or over 7% on an annualized basis. New funded loan origination yields were 8.84%, consistent with the fourth quarter of 2023 and up 108 basis points from the first quarter of 2023. The yield on the overall loan portfolio increased 23 basis points from the fourth quarter of 2023, while deposit cost only increased 11 basis points. As…

Thanks, David. As David covered the loan portfolio, let's turn to Slides 5 through 7, where I will cover deposits in more detail. Deposit balances grew by $206.8 million or 5.1% from the prior quarter as we saw strong demand across our customer base. Non-maturity deposits were up over $66 million or 3.6%, due to increases in fintech partnership deposits and money market balances. Deposits from our fintech partners included in brokered deposits were up 32% from the fourth quarter and totaled over $280 million at quarter-end. Additionally, these partners generated almost $6.1 billion in payments volume, which was up 29% from the volume we processed in the fourth quarter. Total fintech partnership revenue was $610,000 in the first quarter, an increase of 47% over the linked-quarter, with the majority of this revenue consisting of recurring interest income, oversight and transaction fees. Related to CD activity during the quarter, total balances were up $134 million from the linked quarter, driven by strong demand in the consumer channel. We originated $632 million in new production and renewals during the first quarter at an average cost of 4.96% and a weighted average term of 23 months. These were partially offset by maturities of $475 million with an average cost of 4.62%. Looking forward, we have $360 million of CDs maturing in the second quarter of 2024 with an average cost of 4.76%, and $383 million maturing in the third quarter with an average cost of 4.96%. So, as we noted last quarter, the re-pricing gap between the cost of new CDs and the cost of maturing CDs is narrowing, which will continue to contribute to slowing the pace of increases in deposit costs. Additionally, we continue to reduce higher-cost deposits when we can and used on-balance sheet liquidity to pay down some…

[Operator Instructions] And your first question will be from Tim Switzer at KBW.

My first one is, I appreciate the guide on NII and NIM trajectory, and you guys are being conservative excluding the impact of rate cuts. If we get, say, 1 or 2 rate cuts near the back half of the year, what kind of impact do you guys think that has on NII and the NIM? And then, does the beta on deposits kind of change over time? If we get into 2025 and it's a series of rate cuts, does that beta kind of accelerate and you start to get even more of a benefit over time?

Let's take the first part of your question first. I think, roughly speaking, depending on how you want to slice it, it's -- a 25 basis point rate cut is roughly $1 million or so of NII. So that's on an annualized basis. So I guess, you would have to -- wherever you want to choose to put the timing in on that, but that's about an annualized number. On the betas on the deposit side, we do have -- we have over $1 billion of deposits that are tied directly to Fed Funds. So the beta on those is going to be 100% regardless. And then, you get into CDs, if you're re-pricing CDs, those generally follow 100% beta or pretty close to that as well. So CDs will re-price down as well. We probably got some other money market and savings accounts where the beta isn't going to be 100%. It's probably closer to, say, 50% or 60%. And those have been pretty consistent over time. But that's kind of -- I mean, that's kind of the way that I would look at deposit betas on the way down.

Great. That's really helpful. And then, I have kind of a more specific question. But one of your disclosed borrowers in your single-tenant lease financing portfolios, Red Lobster, who recently is going through a bankruptcy, and I don't know if you can talk about customers specifically, but could you generally talk about your collateral and how a bankruptcy could work? Because I know it's the company, not necessarily the franchises in your single-tenant portfolio, how that could work? And then, if you have other exposure in your other portfolios like franchise finance?

The Red Lobster side of things, we just actually had a credit committee meeting this morning and got an update. At our peak, we were almost $82 million in Red Lobster facilities across the country, and that's now down around the $40 million mark. We've been -- on our single-tenant lease portfolio, it's the borrower first, property second franchisor served. Red Lobster happens to all be company-owned stores. There is not really a franchisee involved. What we are hearing from the company at this point, it's been -- post-COVID, the company has changed hands twice. It's really a restructuring of some of their long-term debt. And if you remember back when COVID hit, Red Lobster was in trouble with no delivery system, no online ordering or whatever. So they put a lot of infrastructure into play over the last 3 or 4 years, ran up some pretty significant costs. Question whether the current owner paid the right price or not when they bought the services. But all of our buildings are in great metropolitan locations. Our average loan to value on the real estate itself is under 50%. We have had Red Lobsters over the years go dark and be repositioned generally as some other franchise restaurant or label within a matter of a couple -- 2 or 3 months. And we've been in them for 7, 8 years now, and we've never had an account show up on a delinquency list. So we're pretty confident right now that we're okay. I don't think they're going to go into a full liquidation. That would definitely change things a little bit. But with particularly the borrowers we have in the Red Lobster vertical, they have the capacity to carry those loans for months until they could be repositioned into something else. So, at the current time, we're not too worried about what's going on with them.

Great. That was awesome color. Really appreciate it. Did you say all these properties, they're all company-owned and none of them are franchises?

Yes. The actual operations of the restaurant are done by Red Lobster. It's not a franchisee. They're all company-owned locations.

Okay. So your borrower for all of these is actual Red Lobster, the company?

No. They're individual real estate investors -- individual -- most of them are -- virtually all of them are consumers that -- in our single-tenant lease product, we -- I don't know, Tim, you've kind of been listening in on our call. The single-tenant lease side of things, it's individuals that will buy -- take Red Lobster aside, but like a CVS comes in and puts a new drug store here in Fishers, they don't want to hang on to the property and the real estate. And a single store doesn't get the insurance companies or the big banks interested in buying them in the one-off. So we kind of fill that market for them, where an individual investor will come in and buy it. Most of them have [ $10.31 ] associated with them. So the portfolio as a whole is right at 50% or less in loan to value on the actual property. So we value the property, we make the credit decision based on the investor, and then we look to the franchisee or franchisor as kind of a third-party repayment stream. And we've been doing this for 12 years now, probably $2 billion plus in origination. And all that time, we've only had 1 loan that we took a loss on. So it's just a rock-solid product. We weathered different reorganizations. Applebee's a few years ago went into massive reorganization. 6, 9 months ago, Burger King did the same thing, and it had no impact on our portfolios and our clients.

Next question will be from Brett Rabatin at Hovde Group.

Wanted to start with SBA. And well, I guess, first, just let me go back to the guidance. I think you were giving guidance for 30% fee income growth and 8% to 10% expense growth. And it sounds like both those numbers are a little higher now. But I didn't get -- if I heard -- if you guys gave an exact number, I didn't get one if you're pointing to a specific number for those 2 items.

Brett, Kent wanted to let you do a little bit of homework.

Yes. I would say that the expenses are probably closer to some -- with some of the investments we have to make are probably closer to the 10% to 12% range. But I can tell you that the outlook for SBA is up significantly from where we had talked about at the end of the year.

Okay. And as it relates to SBA, another bank today was out building reserves on their SBA portfolio and was basically just indicating that some mainstream SBA borrowers were struggling with the higher rate environment and the impact to their overall debt obligations. Can you guys maybe talk about how much of your SBA portfolio on balance sheet is guaranteed versus non-guaranteed, and then, if you're seeing anything specific in that portfolio?

What's on the balance sheet is our risk. That's 100% on us in the outstanding asset. As we've sold loans over time, and during COVID, there was a period where the SBA was guaranteeing 90% of the balance, so I don't know how that blends out between that [ 25.10 ] number. But to give you a feel, Brett, we just -- the most current information -- the SBA, like any governmental agency, runs slow. We received a report last week. That's the end of November data. And what they classify as nonperforming assets, anything of 90 days or more past due or on nonaccrual, our ratio was 2.19%, and we're rated low risk compared to our peer group, which was 8.02%. So we're 0.25% of what the industry as a whole was experiencing. So SBA is a higher delinquency and will potentially have higher loss rates than we're used to. We've been in the RV industry for 25 years and have accumulated, on an average, of less than 75 basis points in losses. So SBA numbers are a little high for us. But again, on industry standards, we're on the low end of the risk spectrum as far as the SBA products. So we're diligent on the underwriting. Some people view, anybody can get an SBA loan because it's government guaranteed, and you only have a 25% risk. We don't view it that way. We still have very solid credit underwriting standards that we comply with. So again, it's high for us, but from an industry level, we're very comfortable where our portfolio is at.

Okay. That's helpful. And then, just lastly, you mentioned building up the fintech from a risk perspective with back office hires. With the [ nodal ] activity guidance from the SEC, and now from other regulators as well, is it fair to assume that you're going to be building capital ratios and liquidity from here? Or how should we think about maybe some of the requirements that the regulators are imposing on balance sheets?

Well, I think -- well, I mean, probably -- I mean, just from an overall perspective, our -- we view this year as building capital anyways. And I think, we've maintained pretty high liquidity -- high levels of liquidity over the last several years. I don't think -- I mean, we think about it in the context of the overall organization, not necessarily specific to one line of business. We can tell you -- we obviously can't give you ratings, Brett, but we've completed the safety soundness exam for 2023, and they had no questions or concerns on our capital ratios and liquidity.

Next question will be from George Sutton at Craig-Hallum Capital Group.

This is James on for George. Nice results. Could you talk about the fintech partner pipeline a little bit? Is the pipeline growing? How are the conversations with customers that have been in the pipeline for a while kind of evolving? And then, longer term, what's sort of your vision for the fintech franchise in terms of types of partnerships like lending versus deposit and the potential financial contribution?

I'll take it, and then, Ken might give you some more color on the sales side or the pipeline end of it. We have 10 in some state of being live. We're in the process of testing. We've got 10 more. We're sitting on about 20 that we're in some kind of contract negotiations, some part of due diligence that we're looking at. Our play is to kind of clean up that pipeline. There's a lot, a lot of noise in fintech now with Synapse being acquired or in the process of being purchased. Treasury Prime has changed their operation. There's just a lot of craziness going on. We've got some very solid prospects. As Ken stated, we had a nice bump-up in revenue here in the first quarter. It's not going to double down for the rest of the year every quarter. But we've got some really strong players in the pipeline and some nice stuff coming. So we're getting some interesting at that with some of the things that's happening in the marketplace. So we're going to kind of keep our powder dry and look for really good opportunities. I would tell you, in the 10 that are not live, there are some of them that now, because of capital constraints on their part, or ability to raise additional capital and pressure that they're getting from their original investors -- as we all know, 12, 18 months ago, it was all about growth. Nobody cared about the bottom line, and that's done a 180 on them. Now, it's all about bottom line, not necessarily growth. And some of them are trying to figure out how to get to a positive bottom line. So one of my philosophies for 40 years in business is, when there's the greatest chaos…

Got you. And then, what percent of the loan book today is variable rate? And where would you expect that mix to trend in a higher-for-longer scenario versus a scenario where we get a couple of rate cuts?

We're kind of in the low 20% of the portfolio, probably getting closer to 25%. And look, our goal -- and that's probably coming from somewhere closer to 10% to 12%. So I think the higher-for-longer scenario, we certainly want to keep managing it. But probably just -- even if rates come down, it's still just prudent to have a higher portion of the portfolio in variable-rate assets. So we're trying to drive that number as high as we can here over the next couple of years.

Makes sense. And then, last one for me. Just what do you guys think is working so well in SBA?

I would say, some of our peers, over the last 18 to 24 months, for any myriad of reasons, coming out of COVID, balance sheet issues, deposit issues in some of the smaller community banks where, all of a sudden, there are customers that woke up to the fact they can get much better money elsewhere and pulling deposits. There's just a lot of people that have pulled back in the SBA arena over the last 12 to 18 months, and we've been able to hire some absolutely tremendous people with very seasoned veterans in the industry, with good lead sources, good operational background, good oversight. So I think our key to success versus the rest of the market, quite honestly, has been the people we've been able to attract over the last 24 to 36 months, as a lot of folks have put the brakes on and either stopped lending in total or pulled back for a period of time. As you well know, any good salesperson can't stand idle for very long. So we've been very, very fortunate to kind of hit the market at the right time and really build a tremendous team of people all across the country in the SBA arena. So I think that's our key to success compared to some of the other folks in the market today. And again, our underwriting standards, we don't view SBA license as ability to loan to anybody. We still have some standards and protocol that we go through. We do not approve every loan that we see. And I think in some respects, we're a little faster and maybe a little more efficient than some of the other facilities because of some of the tech we're able to use. Some of the systems in SBA are very antiquated. Some of them are real close to old green screen still, but we've got great people behind it that can move things along. And I think our key to success really is people.

Next question will be from Nathan Race at Piper Sandler.

Just going back to your comments kind of around some of the CDs that are maturing over the next couple of quarters, I'm not sure if you called it out, but just in terms of the replacement cost today...

Yes. Well, if you -- I guess, if you make the assumption that our -- kind of our blended rate on new originations and renewals currently, which is kind of a [ 4.95% ] number, by the time we get to the third quarter, we're pretty much right on top of that. And in fact, over the next 12 months, there's $1.2 billion of CDs maturing at roughly that same rate. So we've kind of -- again, in another quarter or so, we're going to hit that re-pricing where the re-pricing gap is essentially 0.

Provided the Fed doesn't [ dump rates on us ].

Right. And assuming the Fed remains on pause through the end of this year, just based on what you guys are seeing from a competitive perspective, relative to other Internet banks, do you foresee the opportunity in your margin guidance to reduce certain rates ahead of Fed cuts? Or how are you guys kind of thinking about that opportunity potentially?

We dropped CD rates, Nate, from [ 6 months up ] about a month ago. We just talked earlier this week, on a few of them, we're going to drop another 5 basis points. So I think everybody is -- from the financial institution level, if you've been watching money market rates, American Express, Ally, a bunch of folks have bumped down. I think Cap One has lowered their money market rates by 5 basis points, 10 basis points here in the last 30, 45 days. So I think the industry is ready to drop rates. And as they do, we will as well. And as Ken said, we're right on top of it on the CD level. And I think we'll actually get that turned around the other way. So the replacements coming on board today will be cheaper than what's rolling off in the not-too-distant future. And if the -- I agree 100% with Ken. If the Fed does bump anything, it'll be 100% beta, obviously, on the Fed Funds floaters. But on the CD world, that will be almost 100% across the line, too. Our basic money market account rate for the folks less than $1 million in deposits, that will probably stay pretty constant and won't be a 100% beta, maybe a 5 point, 10 point bump-down when the Fed moves. But yes, anything will help us. And I think we're in a great position going forward that we could actually be in a position in the third and fourth quarter for the replacement funds to be cheaper than what's rolling off.

Okay, great. Very helpful. And then, just on deposit growth expectations, I think, Ken, you had guided to 5% to 10% loan growth this year. Is the expectation that deposit growth will largely run at a consistent level? Or is there maybe just an opportunity to bleed down some of the excess cash that you still have on the balance sheet?

Probably a little bit of both, right? We've built some liquidity here in the first quarter. I think we recognize it's probably smarter to keep higher liquidity than historical, but there's -- I think we expect to probably bleed down a little bit of that. But I expect deposit growth to -- obviously, it was much more than loan growth in the first quarter, but it should keep pace with loan growth, maybe a little bit more as we bleed some cash down, but it should -- I mean, it should be relatively in line with loan growth throughout the rest of the year.

We also have some commitments we made back in the financial craziness following Silicon Valley and everything blowing up. We made some pretty long-term commitments, long-term at the time of 12-month, 14-month, 18-month commitments with individuals that had a Fed Funds plus 10 basis points, plus 20 basis points, plus 25 basis points. And we've got a bunch of that coming due here, almost $250 million to $300 million over the next 3 to 6 months. And we're in a position now that we can let that go away and replace it with less than Fed Funds money. So, as Ken said, we're keeping a little extra liquidity on the balance sheet today for opportunities like that re-price stuff and let some of that more broker-type money go away here over the next 3 to 6 months.

Got it. That makes sense. And David, I think earlier, you mentioned revenue from partnerships is expected to double year-over-year versus 2023. I guess that number is not necessarily disclosed or released. So can you kind of help frame out specifics around that?

Yes. As I think I said in my comments, we had about $600,000 plus of fintech partnership revenue in the first quarter. And when we look at our forecast, that number is going to grow. It was up almost 50% over fourth quarter. In David's comments, what he was trying to say is that don't expect that to grow 50% every quarter here. But there is a big piece of that that's recurring revenue. So we're going to see some more -- kind of more single-to-low double-digit growth in that number. But for the full year, our expectation is that fintech partnership revenue, which includes interest income and fee income, will be about 3x what our revenue was last year.

And I'll pinpoint that one for you, Nate. Our revenue last year was around $900,000. So we're going to push it up between that $2.5 million to $3 million mark this year.

And that's including both fee income and interest income? If I heard you...

Yes, correct. Yes.

Ken, just lastly, on the tax rate going forward?

It depends on who becomes President, right? No, I think, our effective tax rate this quarter was 7.5%. It's probably -- that's probably not a bad number for the next few quarters. Obviously, as income continues to grow and as we get into next year as well, if you take a fourth quarter EPS number and just run rate that for next year, that number is going to migrate probably closer to 10% to 12%. But I think in the near term here, kind of 7.5% to 8% is probably an okay number.

Next question is from John Rodis at Janney.

Actually, Ken, I was going to ask you on the tax rate. But I guess, I'm just curious, on the loan growth, 5% to 10%, that's a pretty wide range. Last quarter, you said 5% to 6%. Just curious why such a wide range?

Some of it is -- in this environment, too, I think what we've seen, and this probably doesn't surprise anyone, is that some of -- we probably had to slow down some -- I mean, we had slow prepayment speeds in the model to begin with, but they probably even slowed down further this year. So we're probably retaining balances at a higher rate than we would have originally forecast. And then, just as we've talked about with SBA having a very strong year, our construction team continues to do well. We've had a few deals in our construction space that were scheduled to pay down here in the first quarter or early second quarter, but we've kind of converted them to a mini perm, and we put them into the investor CRE bucket, and we'll be holding those for longer. So those are just some of the dynamics that are impacting that estimate of growth -- overall growth for the year.

The other side is, too, John, we're -- out there, we're seeing larger deals on the construction opportunities, particularly in the warehousing space, as more and more stuff is coming back to the U.S. and being built locally and stored locally, shipped locally, warehouse transactions are huge. Just here in the state of Indiana, in the last 48 hours, they've announced like 4 million in warehouse space needs and companies coming into the state of Indiana. And those are big choppy -- big chunks that are kind of choppy. So we could pick up some of that business and which would be great for us. And there's just a lot of activity. So our CRE guys are pretty bullish on what's out there in the marketplace right now.

Okay. Ken, just back to the tax rate. So you said near term, so it sounds like the next couple of quarters, you said 7.5% to 8%, and then maybe going to sort of that 10% to 12% range?

Yes. I would probably walk it up in your model, as we -- again, as we continue to build net income quarter-over-quarter. Yes, you can probably walk it up from 7.5% to 8% through this year. And if you're starting to work on a '25 -- or have a '25 number, it's probably maybe somewhere in the 8% to 10% range there, maybe even -- that's probably maybe even higher, maybe 10% to 12% there.

Okay. And then, Ken, just one final question. Just if you look at the level of fee income to total revenue, for the quarter, it's 27%, 28%. Do you think you can grow that -- with SBA continues to be strong, with the margins going up too, do you sort of think you stay in that high 25% to approaching 30%, I guess? Is that sort of the right way to think about it?

Yes, I think so. I think eventually, we'll probably -- I guess, if we assume for this year with no rate cuts and we're growing NII because we're repositioning the loan book and making more on loan yield than deposit costs are going up, that's good. When we start getting some real rate cuts, that might change a little bit because NII growth will accelerate. But I think you're looking at it -- I think that's the right way to look at it, John.

And at this time, Mr. Becker, we have no other questions registered. Please proceed.

Thank you, Sylvie. Thanks, everybody, for joining us on today's call. Obviously, there's a lot of craziness out here in the market at the current time, a lot of the issues about the path inflation is going to take, and based on that, what the Fed might do on rate cuts. We're optimistic about our outlook, regardless of kind of what happens in that space. The strong performance, as we just discussed about our commercial and consumer lending teams, including all the growth we've experienced in small business and construction, can drive even greater revenue growth for us, though in a stabilized deposit cost, and it paints a real favorable earnings picture for us going forward. As fellow shareholders, we remain committed to driving improved profitability and enhancing shareholder value. And we thank you for your support, your time today, and wish you a good afternoon. Thanks everybody.

Thank you, sir. Ladies and gentlemen, this does indeed conclude your conference call for today. Once again, thank you for attending. And at this time, we do ask that you please disconnect your lines.