EQB Inc. (EQB) Earnings Call Transcript & Summary

Yes. I mean the equipment leasing is certainly more economically sensitive. We're lending to real businesses. But I would remind investors that we have about 60% that is secured against transportation equipment. We're feeling pretty good about how, again, the deferrals are rolling off there. Certainly, in March, we saw supply chains being disrupted in the on -- as the pandemic started between the factories closing and then reopening and so on. And now that equipment seems to be rolling now, and the payments are coming in fairly well. Even when we offer a deferral in the leasing business now today, we're receiving at least 50% payments on those leases, so not complete deferral. So feeling pretty good. It's a less than $500 million book. We do have about $960 million of single-family lending in Alberta and about $470 million of commercial that would mostly be on residential real estate, though multistory apartment buildings. Again, there's clearly more elevated risk in that province as the economy goes through a restructuring, certainly with the energy industry. But we're feeling pretty good about it. These are mostly loans in Calgary and Edmonton, where clearly, there's much more than just oil and gas. There's universities and health care and a bunch of other more diversified industries. But an area to watch and certain area where we have a lower risk appetite in terms of loan-to-value in Alberta today than -- we have had issues since 2014, I guess, so I feel like we positioned the book fairly well. On the construction side, in contrast, I actually feel the risk is pretty limited. We've done a deep dive into that book. There's $1.3 billion of construction loans on our books. Some of those are insured by CMHC, actually. But generally, we -- having sort of -- if you've gone through the book, we're not too concerned about our construction book and feel that's a low-risk position right now.

I'm going to change gears a bit. We touched on it maybe in the beginning of the conversation. But over the past few months, have there been any significant changes to the competitive dynamic across either the retail side of the business or commercial segments?

Yes. I mean in general, no. I mean we're one of the larger player in the Alt space. I mean anybody observing the space would say there's one other big competitor and then a few smaller players that are always there and coming in the market with various levels of kind of progression on basis of credit or rate. So it seems like we're still facing those traditional competitors. 1 or 2 might emerge with a bit more enthusiasm from time to time, and it feels like the same dynamic. And the good news is they're funded pretty about the same way as we are of broker deposits. So the kind of cost structure of those players is pretty similar. And on the commercial side, we're seeing a little bit less competition than normally. I don't quite know what's driving that, but some of the traditional deposit takers seem to be less aggressive in the commercial area. So we're able to lend at slightly lower loan-to-value, better credit quality and decent spreads in that market. So no big changes, frankly.

Yes. Well, I think some investors may be surprised, I think, by the dramatic growth in the prime mortgage business since the pandemic broke, and this isn't normally an area of focus within the Equitable story. What's behind that shift in emphasis?

Well, it's really -- I think it's a testament to our strength of our business model. What we saw when the pandemic broke is we were concerned about potentially some risk in the Alt space and commercial and housing values. We moved some of our team into the prime space, where we have good -- when we're faced with the broker, a decent brand position. Our volumes are up about 50% year-over-year. More importantly, the margins dropped dramatically. So we've certainly made some good money in that period while the spreads are wider. When we say prime, these are so prime, these are all insured mortgages, in fact. So we're basically originating mortgages and selling them off as MBS. And we think it's about $40 million of value created in terms of those -- that insured business that we're originating directly. Now it's a bit of a deferred gratification thing in the sense that we can see those margins here over the next 5 years. But it is building embedded value in the book of business, and again, with almost no credit risk concerns. But there isn't really no credit risk in the sense we have counterparties with the mortgage insurers to guaranteeing credit losses on these businesses, on those loans.

If I can maybe turn a little bit towards the number side. Can you just talk a little bit about maybe the outlook for the net interest margins and what the areas of greatest uncertainty in terms of where those margins could be at?

Yes. I mean I think in general, we don't see NIMs changing that much over the next little while. So unlike large institutions, we don't have the benefit of large balances and checking accounts with 0 interest. Clearly, when interest rates drop, the interest rate can't really go below 0. So we do -- we did see in the last quarter some compression in NIM related really to onetime feature of ensuring a bunch of single-family loans through CMHC. We actually amortized that insurance premium through the NIM line. And I think we're just going to try to do a better job in the future of kind of doing NIM by product line because sometimes we get the story from investors, well, your got NIM compressed. But it may be a feature of our insured business growing at a faster rate than our alternative business. We would expect to have lower margins on that insured business. But the good news is where we see growth in the insured business, we're also seeing ROEs rise because those are very high ROE businesses but relatively skinnier on NIM. And thinking longer term, one of the wins coming for us, we hope, is to save cost of funds by about 30 basis points compared to broker deposits with EQ Bank over the next 2 to 3 years. So therefore, that becomes a more meaningful part of our funding and potentially similar savings for anything we issued through covered bonds. We're hoping that will help improve NIMs going forward.

Yes. I mean that leads to my next question. And so EQ Bank, I think, is a big part of the Equitable story. Maybe you can provide us a quick update on that.

Yes. Well, we just actually put out a press release last night because we've just celebrated crossing $4 billion in deposits. It took us about 3 months to pass to -- to gather the last $1 billion in deposits, and it took us nearly 2 years to gather the previous $1 billion. So it tells you something about the change in appetite around dealing with EQ Bank. But I think -- I guess my key message to anybody watching today, you cannot understand the Equitable story without opening an EQ Bank account. Not asking you to put a big deposit there, but I think -- for sure, you -- even if you don't like the stock, you've got to love the EQ Bank account. Not only does it offer you a good interest rate, it makes money -- moving money overseas, seamless and the best value of any other bank in Canada. You can move money to friends and family that have EQ bank accounts in real time really easily at a touch of a button. It's a very easy way of opening up a joint account. So -- and frankly, we're only at the beginning of our road map. We've built the foundations of a great digital bank. And now we plan to build on these foundations that we've built. And the strength of our team in this area is really quite fantastic. 5, 6 years ago, we had no skills in this area at all. We had an individual with vision from one of the big banks. And as we've built out the team, we now have a deep bench of people that really understand how to build a digital bank.

Okay. Maybe kind of on that front, I think as you continue to invest and position Equitable for growth in an uncertain environment, what do investors expect with respect to expense growth and efficiency ratio over the next 12 to 24 months?

Yes. So I think efficiency ratio and expense growth, obviously, go hand in hand. But the -- generally speaking, around about the 40% efficiency ratio should be where you expect us to be, which does make us the most efficient bank of the 9 banks listed on the TSX Composite Index. So we're pretty pleased with that. We don't think there's a huge opportunity to drive expense ratio lower than that, frankly. You've got to keep a balance between being relevant, advertising in the market, building your brand and maintaining costs. So we're very rigorous around cost. We're a sensible organization. When I fly on business, I'm always in the back of the plane. It's a low-cost operation, but we do need to invest in proper infrastructure and things like cybersecurity to keep us relevant in the market. And really, our guiding principle is not so much expense ratio as it is ROE. So trying to keep that ROE in the 15% to 17% band is really got our goal. And if we have to engage in businesses that have relatively less efficiency as measured by an efficiency ratio but have got higher ROEs, we're going to make those decisions going forward.

Okay. Well, listen, let's start to close out our discussion here with maybe kind of a walk through some of your key strategic priorities over the next 12 to 24 months.

Yes. Thanks, Phil. So I mean clearly, job #1 is just working our way through -- the pandemic is not over. [ It was as much ] -- but we may feel good about how things are evolving. So working our way through and the risks related to that and economic consequences, while we're feeling good about it, and all of our projections show earnings increasing in each in the next 2 quarters, that all has to unfold. I mean we're still going to be on our toes to manage our way through that. And beyond that, we really have a full road map in terms of the delivery in the EQ Bank platform. There's some really obvious developments we need to offer. We don't offer registered accounts today, the TFSAs and RFPs. We're thinking about other functionality around payments and really bringing some true innovation in the market that will have the impact of reducing the cost of funds and therefore benefit our investors as well. On the lending side, we're really making the digital journey there to make origination easier and cheaper. So we're very good at facing the brokers. And certainly, the goal is to continue to improve service levels from digitization. And that will lead to market share gains, we hope. So things that we do already around being able to sign a commitment letter virtually and things which actually brought innovation to the market when we did it using the ability to screen and scrape to prove income. And then from an investor's perspective, we really want to continue to be able to deliver on the core value accretion model that we set out about 5 years ago. Roughly speaking, we're going to generate 15% to 17% ROE every year. And we pay out about 10% of that. So that means our book value and EPS grow by about plus or minus 15% a year. And that kind of drives you to a CAGR that -- CAGR in EPS and book value that we think will create meaningful value for our investors over the years ahead. So that kind of -- sort of broadly, it's a bundle of things there, financial, delighting our customers and looking after the risk in the business.

All right. Well, listen, I think we kept you busy today with one-on-one. So maybe one quick question on that front. What do you think is the single biggest misconception from investors in Equitable Group? And again, if you had one key message for them, what would that be at this point?

I think people overemphasize the potential downside from credit losses. This is a bank that understands how to manage credit. And we make $200 million a year roughly, let's say. We can afford to take some losses. And I don't think we think we're going to see the losses that investors are presumably building at the stock price. This is a company that's going to generate roughly $3 in earnings a quarter. So let's say $12 a year in EPS, and we're trading in the 70s. So that feels like even a 10x multiple on a reasonably modest business should be realistic. And we're well positioned for the changes that are coming into the banking industry. But to me, that, if anything, should attract a premium, and yet what we see is our stock being routinely discounted. So I think when you really understand this business, open an EQ Bank account, understand the things we're doing in the innovation we're bringing to the market, really think through how badly the mortgage -- the housing market has to be impacted to deliver us huge losses. I actually feel very comfortable with our business model. This is the third business where I've had a chance to be the Chief Executive, and this is by far the most comfortable one that I've had. And yet strangely it trades at a discount to others that I've run that appear to be, yes, they were good businesses, but they had other risks delivered. I sleep much more soundly with this business than many others that I've been involved with. So I think it's always easy to think about the risks, but we also got to look at the upside. The banking industry is a great industry with deep moats around it. It's hard to set up a new bank. There's only 9 banks listed on the Toronto Stock Exchange. Six of them have a sort of particular approach to life, the big banks. And we've got a distinctive one that allows us to kind of carve out a decent piece of territory that I think reward investors and reward our customers and actually reward Canadian society generally as we sort of put broader pressure on doing things differently in a digital way.

All right. Well, Andrew, on behalf of Scotiabank Global Banking and Markets, I'd like to thank you and your team at Equitable Group for your participation and support in this year's event.

Thanks so much for having me, Phil. Let's hope we can all do it in person next year.

Thank you. Me, too.