GBank Financial Holdings Inc. (GBFH) Earnings Call Transcript & Summary

Well, I would like to welcome everyone today. This is Ed Nigro. And unfortunately, we won't have a video of Ryan, Jeff and I. And of course, with me are Ryan Sullivan, our President and CEO; and Jeff Whicker, our Executive VP and Chief Financial Officer. Good morning to everybody on the West Coast. Good afternoon to everyone else in Arizona or to the East. Ryan and I are currently at the Janney CEO Conference in Scottsdale, Arizona, so we're broadcasting to you from the hotel. And I would like to start off with a little introduction and a few comments, but primarily referring back to my comments last quarter when I said the third quarter was indeed a great pivot for us in terms of how we're going to manage our balance sheet and our future growth. And the fourth quarter was indeed a continuation of that. And I believe our comments, we're seeing some in the third quarter, but the full impact will hit the fourth quarter. And this centered around the repurchase and refinance of those SBA loans that were in our already managed servicing asset, which was in excess of $700 million at the beginning of the year. So we were, in essence, managing all these loans already, and what we did was start to repurchase in those that wish to refinance so that we would keep the relationship in the bank. And in the third quarter, we actually did $21.5 million in repurchases that we held. And in the fourth quarter, we did another $96.8 million that we repurchased, for a total of $118.3 million now at the end of the year. We also, though, held those that we have for sale because we now have 2 categories in our balance sheet, originated and held for investment and repurchased and held for investment and also then held for sale. So in our held for sale, we had $36.6 million in the third quarter, but we held more of them in the fourth, up to $89.3 million. And then our originations we held were $16.8 million in the third quarter and stated about $18.7 million. Now that amounts to $205.9 million third -- fourth quarter total of guaranteed loans on our balance sheet versus $91 million in the third quarter, total, for 125% growth. Now we had said that we were -- this was going to be a great pivot, and we had anticipated very strong -- based on our results of the third quarter, we felt the fourth quarter was going to be particularly strong. And indeed, it has been. The interesting thing -- I think the most interesting thing now is that we have about 30% of our entire loan portfolio is guaranteed, and this really says a lot for our risk metrics. I think, also, I wanted to point out that even though we had a substantive growth, and Ryan will get into the figures a little -- in more detail, as will Jeff, but we said that we were going to start changing the asset sensitivity of our balance sheet, that we wanted to have it less asset-sensitive. And this is indeed what we're doing. . I looked at the Board -- we had Board meetings yesterday. And one of the things I said to the Board, if you look at our financials and you look at our income summary, if we were sitting at the table and this was January of 2023, and I was sitting and telling you that, this year, we're going to have a $9 million reduction in our gain on sale income, $9 million -- it went from $16.5 million in 12 -- for 2022 to $7.6 million in 2023, in other words, we went down $9 million in income, we would be and obviously be very concerned because that was a significant portion of our entire earnings. But we did, and that's what the pivot did, because our interest income -- our net interest income went from $25 million to $38 million year-over-year. So the pivot is working. And had we not been able to generate this increase in interest income, both through the existing loans we were creating, the gain on sale was very difficult. And those banks and others, unfortunately, they've had to rely solely on the gain on sale, had a difficult year. But we were able to convert it to net interest income, and that conversion is continuing. So that when interest rates -- and I'm competing -- we're competing with Powell right now. I think his conversation is going on, and we're not sure what he's saying. But should interest rates start down, in most occasions, the gain on sale premium increases. And we also have the protection of a substantial amount of our balance sheet is pretty well fixed. I think it's almost $300 million is fixed for the next year, altogether this year. So the pivot is working. We're creating net interest income. We're creating a less asset-sensitive balance sheet. And we've been able to continue to grow the bank significantly, as Ryan will get into. And I'm going to turn it over to Ryan now to get into more detail on the numbers, but I just wanted to reflect on the great pivot. And it continues, and it will continue through the first quarter of next year. And I'll come back a little later to talk about our application on BCS. Ryan?

Great. Thank you, Ed, and welcome, everyone. Thank you for joining us today. This is Ryan Sullivan. Just to expound on a couple of points made by Ed and tying back to our discussion about a quarter ago when we talked about the great pivot. Obviously, we're encouraged by the results posted for Q4, really showing that, that pivot indeed has worked and will continue to work. In terms of earnings for the quarter, Q4, approximately $3.5 million. So on a linked-quarter basis, essentially, we doubled our earnings. And obviously, the balance sheet growth is additionally a big part of that story. The focus that we've had in this -- during this pivot, as I've mentioned, is we knew gain on sale would be a challenge this year, as it has been for all government-guaranteed lenders, and really showing the resiliency of our operating model and driving net interest income up. Ed gave you the year-over-year numbers. For the quarter, our net interest income was $10.4 million, which, compared to the year-over-year quarter, Q4, a year ago, is up 19%. So we're obviously continuing to drive those -- that revenue line and seeing the balance sheet grow quite significantly in Q4. Net interest margin was 5.16% for the quarter. Certainly, deposit cost pressure. We're paying, like the rest of the industry, high levels, high rates on deposits. That's been offset by the significant 30% sequential loan growth and a larger percentage of our balance sheet being held in those higher-yielding loans. So we think, as we look ahead for 2024, we're really encouraged with the metrics that we're seeing. And we really view -- you'll notice a pretty significant expansion in the CD book. That's really kind of bridge funding for us as we seize the opportunities for rapid growth, which will continue into Q1, but maintaining the strategy of mitigating our asset sensitivity position that we were in 2 years ago that it allowed us to expand over a 2-year period. If you go back to Q4 of '21, our net interest margin was 3.40%. So to have that expansion from 3.40% in a 2-year period to 5.16% we're very pleased with. And really focusing on in 2024, our core deposit generation engines, which we're particularly excited about. Q4 was a good start for that on the liability side. And you'll note, certainly, we did have some significant expansion in the CD book. But every single category on deposits was up for the quarter, including noninterest-bearing, which was up approximately $5 million during Q4. Now on the position and on those CDs, obviously, trying to maintain our strategy of mitigating asset sensitivity. I will say that nearly 80% of our CD book we've kept short. We've got it all e, but 80% specifically is -- has a maturity or is callable in a year or less. The balance sheet growth was significant. Obviously, the loan growth with the $159 million in net gross loan growth in a single quarter. A lot of talk about the change in terms repurchase program, as Ed referenced. That will continue into Q1. We think between -- for the whole program, and we started with the $21.5 million in Q3, posted a significant increase in Q4. We think Q1 will have a continuation, and we'll probably end up in total about $140 million in total repurchased loans priced for 5 years in the range between 8.5% and 9%. Also encouraging is we're seeing significant volume in addition to the loan repurchase program in terms of loan originations. Loan originations and sales both surged quite a bit after some low marks in Q4. Specifically, sales were up 68% by volume when compared to Q3, which is a great number considering our higher retention rate. And we were able to do that at the same time that we grew the balance sheet as significantly as we did. As we think about going forward, obviously, we'll see continued retention build in Q1, as referenced, but we really are targeting probably, at a minimum, in 2024 in sales volume, $50 million per quarter. And that puts us in a very strong position with our SBA engine to benefit when those secondary market prices do go up. And we're already starting to see some signs where they're ticking up slightly. The GAAP gain in Q4 was, I believe, an all-time low at 3.18%. But even early in January, we're seeing some positive movement in prices, and we think that there could be some further movements up over the course of the year. Again on SBA. As we reported last time, we were #22 in the country as of the SBA fiscal year-end, which was 9/30 of 2023. Very excited to report that, as indicated with our loan origination surge, we've actually moved up to 6th in the country, and that's for the SBA fiscal year to date, which started on October 1. So since October 1, we have secured $168 million in SBA authorizations. So we're very excited about the level of growth that we're seeing, the level of business. Our expanded SBA pipeline, as it stands today, is nearly $225 million. In addition, credit card continues to be in beta. We're having some great progress there. We really think 2024 is going to be a breakout year for that. We're having some great conversations in terms of growing that program, starting to get some good visibility. In terms of marketing that, we still have a direct marketing program. But one of the things I'm particularly excited about announcing in the near future is we're having some very important conversations with potential large companies that could represent some rather significant affiliate partnerships that will really drive those credit card -- that credit card portfolio up. Also, kind of interesting anecdotally, you may have seen it, the GBank Visa Signature credit card was featured on a NerdWallet article talking about the unique features and benefits of that product. So with that, I will turn it over to Jeff Whicker to give you some of the details on the numbers. Jeff?

Thank you, Ryan, and good morning, everyone. Typically, the financial portion of the earnings call begins with net income, but the star of the show this quarter, as discussed by Ed and Ryan, is asset growth. So looking at the balance sheet, GBFH ended December 2023 with $917 million in total assets. Assets increased by $187.7 million or 26% during the quarter due mainly to an increase of $159 million in gross loans. This puts the bank in the 98 percentile in growth when compared to its peers. Loan growth came in through both SBA and conventional lending as balances increased 30% for the quarter and 67% over the prior year. New originations were approximately $135 million during the quarter, with $113 million coming from SBA and $21 million from conventional lending. In addition, the bank repurchased $86 million in SBA government-guaranteed loans and repriced them to a 5-year fixed term with an interest rate between 8.75% and 9%, bringing the year-to-date total to $106 million. Loan sales during the quarter were approximately $37 million, which was reflective of the low pricing levels. 100% government-guaranteed loan balances grew to $205 million, as Ed discussed earlier, and represents 30% of the bank's total loan portfolio at year-end. This is up 125% from prior quarter and 446% from the prior year. The bank funded this asset growth by increasing total deposits by $152.1 million during the quarter and taking out a $30 million short-term borrowing from the Federal Reserve Bank. While the deposit growth was mainly in CD and savings accounts, as Ryan mentioned earlier, the bank did see quarter-over-quarter growth in every deposit classification, demonstrating the bank's ability to bring on additional funding. The bank subsequently paid off a $30 million borrowing in January. As expected, deposits are getting more and more competitive. Cost of funds increased 62 basis points for the quarter to 2.88% and 2.14% year-to-date. Uninsured deposits are estimated to be 38.32% of total deposits and noninterest-bearing deposits represent 29.1% of total deposits. Our loan-to-deposit ratio increased to 91.6% from 88.28% in the prior quarter. The securities portfolio is mainly made up of short-term duration treasuries and variable rate Ginnie Mae mortgage-backed securities. $45 million of the treasuries will mature between February and June of this year to be reinvested at higher yields or pay off high-cost deposits. Overall yield on the portfolio was 4.1% year-to-date, which is compared to the bank's peer group of 2.53% and puts us in the 96th percentile when compared to our peers. The OCI is still negligible and down from $270,000 to $252,000 in the quarter. And the total unrealized loss on the combined held-to-maturity and AFS portfolio is $1.65 million, which is expected to decrease significantly during the year due to both maturities and potential rate decreases. GBFH equity to assets ended at 10.73%, down from 12.97% in the prior quarter. And the bank's Tier 1 leverage ratio was 14.06%, which would compare to 16.18% in the prior quarter. The decreases are due mainly to the strong asset growth, which we expect to continue in Q1. Overall, the record balance sheet expansion, driven by both organic and repurchased loan growth, has allowed the bank to take advantage of its strong balance sheet and grow when other banks are stepping back. In addition to the asset growth, the company experienced strong earnings this quarter. For the quarter, GBank Financial Holdings generated income of $3.5 million or $0.27 per diluted share. The annual income was $10.9 million or $0.86 per share, diluted. This is compared to the $10.9 million in the prior year or $0.87 per diluted share and puts the bank in the 85th percentile when compared to our peers. Quarter-over-quarter, net interest income increased 8% to $10.4 million compared to $9.6 million in Q3 2023. Net interest income is up both quarter-over-quarter and year-over-year as the bank continues to produce high-yielding assets and reach the benefit of the Fed rate increases. This has increased net interest income by $12.7 million or 50% over the prior year. The increase in yield on earning assets is particularly impacted by the repurchase of the guaranteed balance loans. When we repurchase an SBA loan, we are required to write off both the remaining servicing right and the remaining discount on the loan. This has slightly inflated the yield on earning assets, which was offset by a reduction in servicing right income which totals into noninterest income. The discount was reduced by approximately $596,000 while the servicing rights were reduced by $607,000 during the quarter. GBank has seen some net interest margin compression in Q4 2023 due mainly to the higher-cost deposits. The bank's key 2024 initiatives include significant growth in core deposits, which will reduce the cost of funds and increase our margins. The bank's net interest margin of 5.3% for the quarter and 5.72% for the year puts the bank in the 98th percentile when compared to its peers. As we look at sensitivity, the bank's sensitivity continues to decrease. The large increase in fixed rate loans during the quarter, combined with the short-term funding, has continued to reduce the asset sensitivity of the bank. Fixed rate loans greater than 1 year increased $109 million during the quarter while CDs greater than 1 year increased only $40 million. The bank's total noncallable CD balances greater than 1 year are just $60 million. During the year, the bank has brought on $82 million in brokered CDs, which are either callable or mature in under 20 -- right under 12 months. The most recent models show the bank's net interest income will change by approximately 12% in a 200 basis point rate change either direction. Current balance sheet growth is working to secure the increased margins and continues to move the bank into a more neutral position related to sensitivity. Noninterest income totaled $1.3 million and increased $89,000 or 7.4% over the prior quarter. Gain on sale of loans increased $413,000 quarter-over-quarter due to a substantial increase in the volume of loans sold, which more than offset the decrease in loan servicing income that was discussed previously related to the loan purchases. One thing that I'd like to point out is the natural hedge between the gain on sale of SBA loans and the net interest margins. As interest rate rose this year, we saw a significant increase in margins at the bank that offset the reduction that we saw in the gain on sale revenue. As rates begin to come down, we would expect that the gain on sale of revenue would rebound, providing additional revenue to the bank. Combined with the additional fixed rate loans that the bank has brought on the balance sheet and the short-term maturities on the high-cost deposits, we would expect that the bank would perform well in a rates-down environment. Noninterest expense decreased $1.4 million during the quarter, primarily due to decreases in salaries and other operating expenses. Salaries decreased quarter-over-quarter as a result of an increase in the dollar amount and volume of deferred loan origination costs related mainly to the high loan production and repurchases. Other expenses decreased primarily due to the release of certain early year accruals for IT initiatives. Credit card noninterest expense for the quarter was $499,000. The year-over-year increase in expenses was anticipated as the bank has continued to invest in future initiatives, including credit card and SBA divisions. The efficiency ratio for the quarter was substantially impacted by the decrease in noninterest expense and the increase in revenues for the quarter. Ratio fell to 59% for the quarter and was 68% year-to-date. This is compared to 63% for the prior year as 2023 reflected substantial investments in credit card, infrastructure and personnel as a basis for future growth. The company's ROA was 1.51% compared to the peer average of 1.16% and the return on average equity was 11.78%. During the quarter, the bank continued to enhance liquidity options to provide additional security to fund bank operations. The bank has on-balance sheet liquidity of $190 million and total liquidity, including borrowing capacity, of $583 million. This puts the bank in a position to replace 77% of its deposit base, if needed, with short-term notice. Looking at asset quality. Provision came in better than we expected due to government-guaranteed growth bringing down the overall allowance for credit loss to 1.04% of gross loans and 1.48% of at-risk loans, which is net of the government-guaranteed balances. Overall ACL increased 458,000 to $7.1 million during the quarter, and ACL ratios relative to the total loan portfolio size decreased mainly due to the significant increases in guaranteed loans. Nonperforming assets increased from $1.1 million in September to $6.3 million at December 31. The September 30 balance was comprised of 2 ORE properties that were sold during the fourth quarter. The December 31 balance is comprised of one nonaccrual loan of $2.7 million, $2 million of which is guaranteed; and one loan past due 90-plus days and accruing of $3.6 million, $2.7 million of which is guaranteed. No charge-offs were recorded during the fourth quarter. So overall, as we look to the coming year, the bank will focus on 3 main areas to ensure its continued success: improved efficiency through cost maintenance, continued strong SBA originations and sales and increased core deposits. The bank had an incredible 2023 and is positioned well to perform in 2024. With that, I'll turn it back over to you, Ed.

Well, thank you, Jeff. I want to just finish by talking a little bit about our BCS-GBank merger. But one thought came to my mind as Jeff was finishing up. When we looked at then talking about the gain on sale, that $9 million that always sticks out in my mind, that when you see a 53% decline in gain on sale year-over-year, you would think that the originations were adversely impacted. And it's interesting to note that our originations in 2022 were $290 million and in 2023 were $318 million. So you see our originations really increased almost $30 million. And the price reduction, of course, was the premium going down to ridiculously low amounts. But with that, I want to move on to BCS-GBank merger because we went up in December and submitted our application for the merger to the FDIC in San Francisco. And Ryan and I went up personally and delivered the application. And we've learned a lot since then, and a great deal has been happening. One of the most important aspects of this application is that how it fits into the FDIC statutory and regulatory process and how the FDIC processes such an application. The first was the identification of the application as an IDI, which is an insured depository institution, acquiring a non-IDI, which is BCS, a noninsured depository institution. This creates an entire series of additional processes by regulation that the FDIC must undertake. And any application, we learned through going through this process to the FDIC, by a bank is referred to the bank's case manager. And the bank's case manager is responsible for writing the SOI, which is called summary of investigation. And that summary of the investigation is contained in the FDIC regulatory -- regulations as to what it must do, what it must say, what it must cover and the information that must be in the SOI. And it is enormous. It is -- if I were to -- and I went through the regulations in order to understand the task that our case manager had before her. And by the way, this is standard procedure. The case manager for any institution is the one who must write this SOI for any application for merger or otherwise. So we delved deep into what is required in this SOI and started working with our case manager and other staff at San Francisco in creating the documents they need to answer the specific questions that are in the regulation, and to address with specificity and not wait for a letter back from the FDIC saying, "Hey, we need this information." And the letter would be obviously extraordinarily long. Because we have been providing the data they need in order to fill in all of the required statutory answers they must do, including risk analysis, including cost/benefit, cost basis, benefit analysis. We have just been submitting a great deal more information, but specifically designed to be able to arm our case manager with all the tools she will need to complete the application process. We know we're going to have additional meetings with them. We believe we are making good progress with the FDIC. We have had a really great open communications with them. And we understand what they need, and we've been providing, we believe, what they need in order to complete the acceptance of the application, which we're hoping to achieve during this -- in the next 30 to 60 days, we believe. So having said that, the BCS had another interesting thing occur. Well, not interesting, very important. It actually received its third patent approval on the 23rd of January of this year. Now the third patent is a continuation of the first one. In the first patent, we patented the architecture and structure of the payer information management system. In the second patent, we actually broke it into further and patented the reconcilement, compliance management and dashboard reporting processes of the PPA. And then in the third patent, we provided all of the structure application in the first 2 patents to consumers into the consumer program, and now we have the patent on all 3. So that was a very important move for BCS and, of course, in the merger. We want GBank to own that IP. Right now, BCS is working on a good pipeline with -- they have a niche right now with start-up wallet programs, both consumer and skills gaming. And we'll continue -- they're continuing to receive recommendations from some interesting sources, which are developing a good pipeline on a fee basis for BCS and potentially a good increase in deposits for the bank with its existing contract. But I wanted to bring that -- those several points up about where we stand with the application and where BCS stands currently. So with that, Ryan, unless you had anything to finish up with.?

Yes. I would just further discussion of the BCS and GBank merger. I think we're particularly excited as that progress -- or that process continues. There's really 3 main points in terms of why we think that's important. Obviously, there's some significant interest in the structure as it is and, certainly, the possibility in the future for licensing fees, and that's all particularly exciting. I will note that the additional benefits for GBank really establishing control and exclusivity on the existing clients. And the clients, as we continue to grow those relationships within gaming fintech, and the existing fee income that is outside of any potential future direct patent-related or licensing fees and the PPA fees that are generated with what is an expanding and growing pipeline within PPA clients. As we mentioned in the earnings release that we're working on currently 5 -- or excuse me, 4 live PPA clients that we hope to close in the next 90 to 120 days and get them on the books and supporting them and their clients through PPA and PCA. So...

So we have a lot going on, and we'd like to open it up to any questions at this time.

Ed, it's Tim Coffey at Janney.

Great, Tim. Are you here in Arizona?

I am, yes.Yes.

Good. So we're in our hotel room.

We'll see you later.

It's the same. Yes, same here. Just kind of following the conversations about the due diligence you're having on the PPA and PCA clients. Would the financial benefit of those contracts be meaningful?

Would be what?

The financial benefit...

Yes, how meaningful are the results?

Financial benefits of which? I'm sorry, Tim.

Of the 4 companies that you're in due diligence with right now.

Well, let me explain how the economics work with startups. Once BCS signs an agreement with the startup to provide a PPA or an acquiring account system at the bank, like we do for one of our other very big $20 million clients, BCS starts charging them a minimum fee per month of $10,000 per month. So these 4 clients, if they all 4 come on board, as soon as they sign the contract and we begin the -- boarding them with the bank, they start paying BCS $10,000 a month each as a fee, and that's the minimum fee they provide. And then BCS has a load fee based upon the deposits or the transactions that are done. They kick in once the 120,000 -- in other words, $120,000 a year is to come with the first $120,000 in load fees. So then if the activity is a little slow because of all of the work that it has been engaged, it takes BCS about 4 months to board a new client, especially startups in the wallet business because they have great ideas, great technology. But when they start to get into compliance, like we do, and they start to get into the regulatory side of moving money -- and of course, one of the beauties of this system we have with it being in the bank, that these wallets are -- they're not money service...