Medallion Financial Corp. (MFIN) Q2 2022 Earnings Report, Transcript and Summary

Greetings and welcome to Medallion Financial's Second Quarter 2022 Earnings Conference Call. During the presentation, all participants will be in a listen-only mode. Afterwards, we will conduct a question-and-answer session. [Operator Instructions] As a reminder, today's conference is being recorded. I will now turn the conference over to Ken Cooper of Investor Relations. Thank you. You may begin.

Thank you, and good morning, everyone. Welcome to the Medallion Financial Corp.'s second quarter earnings call. Joining me today are Andrew Murstein, President and Chief Operating Officer, and Anthony Cutrone, Chief Financial Officer. Certain statements made during the call today constitute forward-looking statements made pursuant to and within the meaning of the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995 as amended. Such forward-looking statements are subject to both known and unknown risks and uncertainties that could cause actual results to differ materially from such statements. Those risks and uncertainties are described in our earnings press release issued yesterday and in our filings with the SEC. The forward-looking statements made today are as of the date of this call, and we do not undertake any obligation to update these forward-looking statements. In addition to our earnings press release, you can find our second quarter supplement presentation on our website at medallion.com, and clicking Investor Relations. The presentation is near the top of the page. With that, let me now turn the call over to Andrew. Andrew?

Thank you, Ken. Good morning, everyone. We are very pleased with our results this quarter. The growth in our consumer and commercial lending businesses continued to yield positive results. Our net income for the quarter was up 30% from a year ago to $13.3 million. Our performance is driven by strong credit quality and robust loan originations. We had a 45% increase in loan originations in the second quarter compared to last year's quarter with solid volumes from both consumer lending and our commercial businesses. Our loan originations led to a 32% increase in net interest income, and we maintained our high net interest margin in the quarter of 9.07%. Regarding capital allocation, we declared and paid a dividend of $0.08 per share during the quarter. In addition, we had our first full quarter of purchases under our stock repurchase program. We used $10 million of cash in the quarter to repurchase roughly 1.3 million shares of our common stock at an average price of $7.84 per share. We plan to remain opportunistic and take advantage of buying opportunities if our stock remains undervalued. All of our growing lending segments had good quarters. In our recreation and home improvement lending businesses, we originated $275 million of new loans in the quarter, which was up 40% from the prior-year quarter. This is very healthy volume and is a testament to our team managing the relationships with our contractors and dealers. Our home improvement lending business continues to be our fastest-growing segment. That loan portfolio grew 43%, while our much larger recreational portfolio grew 24%. Our commercial lending business originated $19 million of loans in the quarter, which is our highest volume over the last four-plus years. However, please keep in mind that commercial originations typically have larger loan sizes, and therefore, the growth rate is not as smooth as consumer originations. That makes comparing growth between them challenging and a linear ramp should not be expected. We now have an overall loan portfolio balance nearing $100 million, which was one of our goals for the commercial team at the beginning of the year. With that, I will now turn the call over to Anthony who will provide additional financial highlights on the quarter and the year.

Thank you, Andrew. Good morning, everyone. Starting at the top, net interest income of $38.9 million grew 8% from the prior quarter and 32% from the previous year's quarter. Increased net interest income is directly attributable to growth in our loan portfolios and the high yields we earn on recreation, home improvement, and commercial loans. Total loan originations of $305 million grew 45% from a year ago. Our net interest margin was 9.07% for the quarter, a decrease of 13 basis points from the first quarter and an increase of 23 basis points from the prior-year quarter. While home improvement continues to be our fastest-growing segment, these loans do come with a lower coupon when compared to our rec and commercial loans and put pressure on net interest margins, as does the slightly higher cost of funds, which we experienced in the second quarter. As we continue to grow home improvement, our net interest margin should shrink. However, as we've said in the past, we believe this to be a worthwhile exchange for both increasing our size and decreasing our credit risk exposure. During the quarter, we began to increase interest rates on new home improvement loans and anticipate increasing rates on new recreation loans. Our loan loss provision was $7.8 million in the quarter, up from $3.2 million in the prior quarter and a benefit of $700,000 in the prior-year second quarter. The current quarter included medallion recoveries of $2.5 million. Loan losses in our consumer seg have remained relatively stable with the increased provision being more closely associated with growth, particularly in recreation lending than with rising credit losses. Non-interest income was $7.4 million in the quarter and included a $4.2 million gain on the exit of an equity investment as well as $2.7 million of gains associated with the disposition of medallion assets. Equity investments are an integral part of our commercial lending business, but the exits of such investments and any associated gains is not predictable. Our non-interest operating costs stayed consistent from the first quarter and included elevated professional fees primarily associated with the cooperation agreement we announced in May and other litigation. We expect professional fees to fluctuate over the coming quarters. Net income attributable to Medallion Financial's shareholders was $13.3 million for the quarter, a 30% increase from a year ago, and our diluted earnings per share was $0.54. I encourage you to take a look at the investor presentation on our website, which shows the trailing quarters and the progress Medallion has made in a little over two years. A quick update on the medallion segment. During the quarter, we collected $13.1 million of cash related to medallion assets. These collections helped further reduce our medallion exposure and generate approximately $5.2 million of income. Our net medallion exposure now sits at $31 million, less than 2% of total assets. We continue to use a medallion value of $79,500 in determining loan loss allowances and in valuing our medallion assets, despite recent transfer activity at prices, which have exceeded this level from time to time. That covers our second quarter financial overview. With that, Andrew and I are happy to now take your questions.

[Operator Instructions] And our first question comes from Gates Schwarzmann with B. Riley Securities. Please proceed with your question.

Good morning, everybody. Nice quarter. Thanks for taking my question.

Good morning, Gates.

So I think, yes, first question right off the bat here is, rates have risen pretty rapidly here. Just curious, how you guys feel about funding costs in the environment and any sort of details that you could provide on the liability side.

Yes. So our cost of funds, they are increasing. We saw that a little bit in Q1. We see that a little bit in Q2. As they increase, we're cautiously moving our rates up on our loans, hoping to maintain our long-term interest margins. In terms of what we're experiencing, we're seeing new CDs being issued at 350 basis points in Q2, which is 250 basis points higher than what we put on at the end of 2021, but we expect that to level off at some point.

Awesome. Thank you. And I guess sticking to margin a little bit. Can we talk a little bit about new loan pricing in the recreational and home improvement side? Have you guys seen any sort of - like any spread compression there? Just curious on your thoughts.

Yes. Not so much spread compression. Like we said, so in Q2, we started to raise interest rates on our new home improvement loans. I think our actual interest yield increased slightly in home improvement and with the coupons we're putting out now. We think we'll continue to raise rates throughout the year, depending upon what the Fed does. Likewise on the rec, we anticipate - we haven't raised rates yet through Q2, but we anticipate raising them going forward.

Awesome. Thank you. And I guess there's been some reports as well about production has slowed a little bit on the RV side. I'm just curious, has your guys' outlook for RVs changed at all in the past three months?

Sure. Yes. So I think we've seen a lot of reports that June sales were lower than historically. And I think it's comparing June to the prior year where it was record-setting. So we haven't seen any big slowdown in terms of loan volume, but we do think originations aren't going to keep up at this pace, but we do think we'll still be able to grow the portfolio where we are now.

Awesome Thank you so much. And I guess if I could sneak one more in, just curious, what are you guys sort of thinking about in terms of expenses in the current environment. Curious what kind of drivers there are on the salaries and professional fees side. Are you guess seeing any sort of inflationary pressure? Just curious about what kind of drivers you guys are seeing.

Yes. So I mean, our - the area where we have most of our employees is in Salt Lake City at Medallion Bank. And Salt Lake City is one of the cities that's been experiencing record low unemployment rates. So there is competition for all - across the board for all types of employees, whether it's in the accounting or the origination side. So there will be some increases there, and obviously, as we continue to grow, headcount's going to go up and we'll see increased costs there.

Awesome. Thank you so much. I'll step back.

Thank you.

Our next question comes from Bill Dezellem with Tieton Capital. Please proceed with your question.

Thank you. First question is, would you please talk about the Covered Holdings relationship and maybe put that in context of the overall fintech strategy, please?

Sure. Good morning, Bill. So Covered's the third strategic partner that we signed up. We're optimistic on all three. The newest one is probably the largest and growing the fastest of the three. So it's a very good business model for us. As many people know, the way it works is the fintech companies send us the loans. We book the loans where they're a lender of record, and then they buy it back and we're earning a fee for doing that and the float for a couple of days. So there is very little to no credit risk there. So it's an extremely high ROE business. We hope to grow that. We went into it several years ago. We hired a very good manager who was the CEO of another bank and undertook this for that bank. So we kind of hit the ground running and the hope is to sign up a fourth partner sometime in the next three to six months.

Yes. And I'll just add to that, Bill. For the quarter, our originations were $9.8 million for strategic partnerships versus just about $5 million in Q1, and so that growth is specifically related to our new partner.

And do you consider Covered to be fully ramped at this point, so that $9.8 million is now a steady state run rate or we still have lots of ramp to go with them?

They started mid-quarter. So I don't think the $9.8 million is the run rate. I would expect that to be slightly higher.

Would you like to put some numbers around that?

It's hard to do so because it's a third party giving us projections on how they're willing to do, how they're expecting to do. Many of them though are bullish about the market. Lenders of those types are really very sought after now and as financial institutions are moving more and more online into more fintech, it's one of the fastest-growing segments out there. So we're hopeful that they'll continue to increase their deal flow and return our fee income.

Yes. And I think there is a fair amount of ramp that they still need to get through. So as they progress through that, we should see originations increase.

Great. Thank you. And then relative to the fourth partner that you were hoping to sign up, how are you viewing or expecting that partner's volume to be, say, relative to Covered? Because it sounds like Covered might be your largest volume fintech that you've signed up so far.

Hard to tell. There's actually several in the hopper. So I'm not sure which one will get to the finish line first to be the fourth, but we're starting to move up scale, which is nice. You kind of put your toe in the water when you're starting a business line. At least we do. We act very cautiously at the beginning. We want to make sure our controls are in place and everything is working smoothly. And then bit by bit, you get larger, more attractive partners, and we're at that stage now where we're past the growth stage and starting to really attract some of the higher volume partners that are out there. So the hope is whoever the fourth partner is will be as high, if not higher than the previous three.

And I'm going to ask another question just on this. So really from a point of ignorance that now that you have the controls, compliance et cetera, and all of that in place, why not bring on four new partners between now and the end of the year or 14 new partners rather than one? What are the limiting factors in the practical reality of bringing on a new partner?

It's really just to get it right. We do a lot of due diligence on the partners. Other firms, I've heard, will sign up a partner as quick as 30 days after the initial meeting. We're usually three to six months. So we really want to do our share of due diligence, make sure they're compliant, that they are geared to doing well long-term also. We're not looking for short-term partners. So we want to make sure that they have the proper procedures in place that will get them to the next level. So there's nothing to say that we can't get a fifth partner this year, but the thought is just to keep moving cautiously as we've been doing and effectively.

Yes. And I'll just add that each of these partners is unique in their own way. So the compliance management systems we have to put in place have to be tailored to each one specifically. So it's not just cookie cutter. We're actually building out a model that works with each one of these partners. So it's a little more on the - in the background that people don't generally see.

Great. That's helpful. And if you don't mind, I'd like to go to one additional direction, which is the Medallion collections. Congratulations on the $13.1 million. Would you please just discuss that holistically and how that fits into the grand scheme of things? I think that might be the largest collection number you've had in many, many quarters.

Yes. We won't pat ourselves on the back because these - as we've said in the past, these collections are lumpy, although we'd like to replicate that going forward. I think that's a hard hurdle to hit. We've been in constant negotiations and discussions with a lot of delinquent borrowers for some time now. And I think what we're seeing, starting in 2021 and through June 30th, is those fruits being born. The $13.1 million, in terms of the geography on the balance sheet, it reduced our exposure and it generated some $5.2 million of income on the income statement, about $2.5 million in the provision and $2.7 million of other income related to the sale of loans in the process of foreclosure to the disposition of those assets.

Great. Well, congratulations and thank you.

Thanks, Bill.

Thanks, Bill.

Our next question comes from the line of Mike Grondahl with Northland Securities. Please proceed.

Hi guys. This is Luke on for Mike.

Hi, Luke.

Hi, congrats on the quarter. Just wanted to touch here on the share repurchase program. So you guys bought back $10 million this quarter. I think it was $7.84 per share. How are you guys thinking about the remaining $25 million on the buyback?

Yes. I think Andy said earlier, we remain optimistic and opportunistic about repurchases. We think the stock is undervalued at these levels that we've seen, especially through the past month. So we'd like to be buying back stock. It's a delicate balance. We still want to continue to grow our business. So in order to grow, we need capital. So there's definitely a dance that we're going to do between buying back stock and returning cash to shareholders and continuing to grow our business, which ultimately is going to be in the best interest of our shareholders.

Got it. Thanks. And then forgive me if I missed this earlier, but what was driving the strength in originations on the rec and home improvement side and also the yields here?

Well, I think it's just being a leader in that sector. We've been doing it for over 20 years, or the management has. We got into the business in 2004 and they have been doing it for Leucadia prior to that. So we've really got a great network of thousands of dealers around the country who think of us first as often as possible, give us first looks at many deals. We've been loyal to them. They've been loyal to us through thick and thin when - the recession in 2008, we stayed in the business; other lenders left. So it's really just building up years and years of loyalty and expertise.

Awesome. Well, thanks for taking the time to answer the question, guys, and congrats again on the strong quarter.

Thank you.

And our next question is a follow-up question from Gates Schwarzmann with B. Riley Securities. Please proceed.

Hi, thanks for taking the follow-up. Just curious, how should we approach credit normalization in this environment? Just curious what you guys are sort of thinking in terms of credit costs and reserve levels here moving forward.

Sure. Our net charge-offs remain extremely low. Typically, we see - historically, when I say historic, I'm not talking about the past 18 or 24 months, but historically, we've seen charge-offs on the rec portfolio that hover around 350 basis points, and on the home improvement side, around 75 basis points. We're well below that. So at some point, we do think it normalizes, although we're not seeing it, our delinquencies, 90-plus day loans at 30 basis points on the portfolio. So it's extremely low. And at some point, we do expect that to normalize and we thought - last year, we thought it was last year, we thought it was going to be this year. We're just not seeing it yet.

Got you. Okay. Awesome. Thanks for the help. And yes, great quarter. Thanks everybody.

Thank you.

Sure.

And there are no further questions at this time. I'll turn the call back to you for closing remarks.

Thank you again, everyone, for joining us on the call today. It was probably one of our longer calls. We had probably the most questions that we've had, which we love. We love to hear from people and the more you know about us, I think the more that you'll like. So please call us with any follow-ups you have. You could always reach us or our Investor Relations team. The contact information is on the last page of our earnings supplement as well as the IR section of our website. Thank you again, everyone, and have a great day.

That does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines.