Metropolitan Bank Holding Corp. (MCB) Earnings Call Transcript & Summary

Welcome to the Metropolitan Commercial Bank Second Quarter 2022 Earnings Call. Hosting the call today from Metropolitan Commercial Bank are Mark DeFazio, President and Chief Executive Officer; and Greg Sigrist, Executive Vice President and Chief Financial Officer. Today's call is being recorded. [Operator Instructions] During today's presentation, reference will be made to the company's earnings release and investor presentation, copies of which are made available at mcbankny.com. Today's presentation may include forward-looking statements that are subject to risks and uncertainties that may cause actual results to differ materially. Please refer to the company's notices regarding forward-looking statements and non-GAAP measures that appear in the earnings release. It is now my pleasure to turn the floor over to Mark DeFazio, President and Chief Executive Officer. You may begin.

Good morning, and welcome to MCB's Second Quarter Earnings Call. MCB celebrated its 23rd anniversary in June, and I am pleased to announce at this time record quarterly earnings and return on average tangible common equity of 16.7%. Our position thesis -- our business thesis to assist clients in building and sustaining generation of wealth has been the foundation of our growth and success. That focus is evident in our long history of strong credit quality, low charge-offs and the strength of our long-term financial performance. Our liquidity position remains strong. We have a proven track record on efficiently funding balance sheet growth. We have also maintained our pricing discipline as is evident in our NIM expansion. It should be noted that along with dealing with a higher rate environment, we have already -- we are already preparing for and when the Fed will reverse its cost by lifting out -- by reversing its cost by lifting our floors on floating rate loans along with resetting rates on automatic renewals. MCB has a solid track record of not reaching its floors. Loan floors have historically been an instrumental strategy for us in managing NIM when rates decline to near 0. I would like to also remind all investors that MCB's internal policy is to limit the use of crypto-related deposits to 50% of the total available for investment or lending. However, as we've stated many times over the past few years, due to the volatility in this asset class, MCB has maintained 100% of crypto-related deposits in our Federal Reserve account. We are comfortable with our liquidity position and our proven ability to efficiently source funding to maintain loan growth and our investment strategy. Again, as a branch life franchise, we have spent 23 years focused on the liability side of the balance sheet to not only fund the growth of the bank but to protect against economic and industry disruptions. Now for some financial highlights as compared to where we were a year ago. Operating leverage continues to be sustainable with revenues up 44%. Noninterest expense up 21% and our efficiency ratio dropped to 42.2% from 50.3%. Total loans were $926 million or 27%. Total deposits were up $890 million or 17%, including DDAs, which were up $676 million or 24%. For our Global Payments Group, revenues were up 36% from the second quarter of 2021. Second quarter 2022 transaction volumes were $29.1 million, up 29% from the second quarter of 2021. While the dollar volume of transactions was up 47% to just over $8 billion. MCB, together with its partners, is well positioned to build out a scalable and profitable digital retail platform within a commercial bank, choosing the right clients to work with along with working closely with our regulatory partners is essential in delivering 21st century efficient financial services, which is available to all consumers. Lastly, I do want to touch briefly on Voyager, as I know this is on many of your minds. It's unfortunate that Voyager found themselves in a situation that requires them to file Chapter 11. I have been very clear for several years now that MCB has pivoted away from actively growing our crypto business with the caveat that we were well positioned to benefit from volatility without putting the bank at undue risk. The primary service MCB is providing Voyager's exchange platform is an omnibus account in which all Voyagers customers' funds are held. Funds from digital asset trades settle in this account in local USD currency. The funds are segregated from the corporate funds and offer the benefit of Voyager's customers, which is why we also refer to this as an FBO account. As a result of the bankruptcy, the funds are temporarily stayed from being released in the normal course of business. On July 14, Voyager filed a motion in court asking the judge to lift to stay on these funds. I am hopeful that the judge will agree to the order, thereby allowing the funds to be released upon request to Voyager's customers seeking withdrawal from their funds. MCB held $455 million in Voyager-related deposits in the FBO account at June 30, including $356 million -- of $356 billion in the FBO account balances. The FBO balance is currently at $272 million. We have a reserve account, which holds $24 million and general corporate funds of $70 million. Voyager is optimistic that they will come out of bankruptcy and continue with their growth plan. Notwithstanding the strategy of recovery, Voyager represents less than 3% of GPG's revenue or roughly 0.25% of total MCB revenue, which is clearly de minimis to MCB. I will now turn this call over to Greg.

Thank you, Mark, and good morning, everyone. The loan growth we've seen in the first half of 2022 has certainly laid the foundation for our earnings expansion with net income of $23.2 million or $2.07 of fully diluted earnings per share and EPS up 22.5% from the first quarter. Let me take you through a few of the key drivers. The commercial banking momentum we saw at the start of the year certainly carried over into the second quarter with net loan growth of $253.7 million or 6.2%, bringing year-to-date net loan growth of 17.2%. Loan originations were a record $513 million in the quarter, up 5% from a strong first quarter and up 93% from a year ago. Volumes are strong across our verticals. Credit quality remained strong with no charge-offs to date in 2022 and nonperforming loans effectively at 0. The credit provision was driven by the strength of our loan production. Turning to deposits. I would like to give you some color on flows for the quarter. Retail deposits, including those with loan customers, increased $175.6 million on the strength of our client engagement during what has obviously been an interesting rate environment. The growth in this vertical speaks volumes on the strength of our customer base especially when you consider the muted impact to this point on deposit betas. We also saw strong inflows of $64 million related to our GPG debit card programs and $143.8 million from digital currency-related customers. These inflows were partially offset by $51.2 million in outflows related to bankruptcy trustees and specialty deposits, which have generally been expected given the nature of these deposits as well as $93.1 million in outflows from property managers as some customers diversified their longer-term cash reserves into higher-yielding treasury products. Our liquidity position remains robust with 90% of total assets in overnight deposits and total on balance sheet liquidity at nearly 34% of total assets. When excluding 50% of crypto-related deposits that we discussed, total on-balance sheet liquidity remains strong at 26% of total assets. Net interest margin was up 56 basis points in the quarter to 3.27% due in large part to the deployment of liquidity into loans and securities and to a lesser extent, the benefit of higher rates. A substantial portion of loans subject to floors have lifted off their respective floors with $408 million remaining to lift off at June 30. Of those loans, 70% will lift off by the time the reference rates increase 50 basis points with another 20% lifting off by the time rates are up 100 basis points. So the majority of those loans will lift off with next week's expected rate increase. Transaction volumes were modestly quarter-over-quarter in our Global Payments business. GPG revenue was down slightly in the quarter, given a higher level of non-transactional revenues recorded in the first quarter and as a reminder, these types of revenues include onboarding fees for new programs, FX revenues and certain expense reimbursements. Noninterest expense continues to be well managed as we are focused on driving a return on investments made previously, particularly in human capital and technology. Other expense did increase in the quarter, driven almost entirely by CRA qualifying grants and charitable contributions. We were quite pleased to be able to fund a number of initiatives in the quarter. Touching on taxes briefly, we would expect the effective tax rate for the balance of the year to be in the range of 31% to 32%, excluding the impact of discrete items recognized in the first quarter. Our capital levels remain very strong with all capital ratios significantly above well-capitalized levels. Our Tier 1 leverage ratio was 9.2% at June 30. Overall, we've had a strong first half of the year, reflecting the sustained growth and performance across our businesses. I will now turn the call back to our operator for Q&A.

[Operator Instructions] Our first question will come from Alex Lau with JPMorgan.

Starting off with loan growth. So very strong loan growth in the quarter. This already brings you to the 17% range from year-end. So this is similar to like the prior 2 years. Do you think you can grow this portfolio even above that 20% or more this year given the strong growth already?

Alex, I said, as we always said, we're very opportunistic. We're very focused more on asset quality and managing our loan yields. So to the extent the opportunity presents itself, I would expect we could see historical trends continue to pull forward. We also have a very strong pipeline as well. So we're very fortunate, but we are really leaning on a side of caution more than anything else at this point. But as I said, the pipeline is strong, and we feel good about finishing out the year.

Are there any notable paydown activities expected to offset some of that loan growth for the year?

Sure. We enjoy payoffs and amortization. So we would expect a fair amount of amortization throughout the second half of the year. And of course, we experienced a significant amount of amortization and payoffs in the first 6 months as well.

And just another one on loan growth. How much of your growth this quarter was from in your New York metro markets? And then how much was like outside of the market?

Okay. I'm sorry, Alex, I may have to get back to you on that. I don't have that breakout. I could say one thing, it's not inconsistent with historical trends. We are somewhat of a national lender, but I don't recall that any outlier in any particular geographic area. So I think we are clearly holding to our geographic historical patterns.

Next on the line, we have Chris O'Connell with KBW.

So hoping just walk through the Voyager math and just get as much color there as possible. So I think you said the total balance is $455 million with $356 million of that being the FBO account. So like under the assumption that, that order is allowed, can we assume that the $356 million would fall pretty rapidly off the balance sheet in the third quarter and then that remaining $70 million or $100 million or so, is that risk of trailing off in the near future, depending on how they can go?

Chris, in my remarks, I did pull forward the $356 million was as of June 30, but I did pull forward in my remarks that the current FBO balance is only $272 million -- $272 million, and we have a reserve account which holds $24 million and general corporate funds of about $70 million. So to the extent the stay is lifted, and avoid your clients withdraw their funds, you're talking about $272 million potentially leaving the bank over some period of time.

Okay. Got it. And I'm assuming the plan is for just that directly fall out of the cash balances, which is why you guys keep there in the Fed flows?

That's correct. They're all sitting at the Fed, as we said.

And then I hear your comments on the rest of the factors with the deposit base, some pluses and minuses there. Given the shift in the crypto environment and there's been kind of volatility both ways, how do you feel about the non-Voyager crypto deposits and how those are trending going into the second half of '22 as well as kind of overall GPG deposits? And I guess kind of like catch that into like how you guys think about overall deposit growth outside of the Voyager event for the second half of the year?

Okay. So let's unbundle that. So talking about crypto-related deposits. And speaking with the other clients that we have that hold deposits similar to Voyager on our balance sheet, none of them are -- none of them are in a leverage position. They are a traditional exchange platform, which is fee-based and custody platforms, which is also fee-based. So their balance sheets are strong. Their current liquidity positions are strong. They are crypto long. They believe in this asset class being around for a very long time. They are managing their business like we're all managing our businesses today in such a great environment and a slowdown in transaction volumes, but they are well positioned to see themselves through this and see where this asset class actually lands over the next 12 to 24 months. So I would be -- unless there's a major disruption in the value or to the industry or to the value of digital assets over the next 24 months. I think there's a fair amount of stickiness to the remaining deposits we have on balance sheet. Now I caveat that with a major correction in the asset class or a major reduction in values further than where we came to over the last month. As far as GPG -- general GPG, we all have to remember, that's a marathon. That's building a digital retail bank within the commercial bank and retail anybody familiar with retail banking. It's 1 client at a time. But those clients are very sticky and they're very scalable. So our partners, our fintech partners are out there with great marketing plans and strategies for client acquisition. So we would expect a consistent contribution from GPG month-over-month, quarter-over-quarter. But you really have to look at it year-over-year because they are -- as the economy slows down, consumers will spend less. So therefore, you may see -- you will see less transaction volumes. You may even see some lower deposit betas there because of if unemployment rises. So the GPG business is traditional retail banking. So they are not immune to a slowdown in the economy. They're not immune to a higher unemployment rate. So traditional akin to any bank that has a larger retail operation as well. The only caveat here is we do not lend, we have no consumer lending on the platform. As far as MCB's commercial deposit opportunities as our balance sheet continues to grow, we're very fortunate to work with high net worth individuals who enjoy working with MCB. And we're deepening those relationships, as you saw again this quarter. And our teams, our lending teams and our cash management teams are out there, every single day working hard to continue to drive another low-cost deposit vertical for us. So we're fairly confident year-over-year, less quarter-over-quarter, but more year-over-year that we will continue to be a very efficient branch-like franchise.

Okay. Got it. That is helpful. And then on the expense side, you guys mentioned a couple of items on CRA investments, and charitable contributions this past quarter. How much was that? And is that more onetime in nature? Will that be falling off in the third quarter?

Just give me a second, Chris, to go to the right page here. It was close to -- I think the delta was close to $1 million in the quarter. I think going forward, it's going to come down probably normalize probably $600,000 or $700,000 lower than that. Again, we had some opportunities this quarter to fund some initiatives there. We were very pleased to be able to participate in.

Got it. And can you just remind us on how you think about the overall outlook on the licensing fee line from here?

Yes. I mean as you know, there's a component of that, that is tied to rates. And it's also tied to some of the deposit volumes. So that really helps underlie the bankruptcy trustee deposits. I think it's, one, where we're going to have to look at it as we go through time just given the rate environment, but that's what I could say at this point in time.

All right. So I mean, like "all else equal" is a move similar to the move that we saw this quarter, a good [ bougie ] for the third quarter, given expected rate moves?

What I know right now, yes, I probably need to sharpen my pencil to Alex -- I'm sorry, Chris, and come back to you on it.

Okay. Got it. And then as far as GPG fees outside, that was very helpful color on the Voyager component of that in the opening comments. What's the outlook? Or how do you see the non-Voyager and the GPG fees trending in the back half of this year?

I think they're pretty very consistent. As I said, it all -- it does depend a lot on the economy. These are consumers on the other side of these retail products. So if they stop spending or deposit flows come down, you'll see a bit less revenue. But we haven't seen any real headwinds there yet with unemployment still down quite a bit. And we're seeing new client acquisition every day with our fintech partners. So I think we're in a good place to finish the year very strong based on the strategies our partners have.

Okay. Great. And then lastly, I know this is going to be a tough one. But any color, any kind of near-term thoughts given the Voyager moving expected in the third quarter and cash coming down with that, but pretty substantial mix shift throughout this quarter as to kind of what happens to the margin next quarter? I mean, obviously up, but just any type of help in quantifying where you guys think that [ plan ]?

Yes. That's a hard one. There's too many moving parts for me to give you. As you know, we typically wouldn't get forward guidance on margin, right? I think what you can rest assured on is we're really focused on efficiently funding the balance sheet and efficient capital usage. I think you're really going to see that come through with continued NII expansion, Chris. I mean you have to think about what's really driving that expansion, which has been the lending side of the sheet and just the success we've had growing the overall balance sheet. So even thinking through moving -- moving some of the overnight deposits, you saw in the second quarter, we're able to grow through some of the deposit contraction we had in the first quarter really just by the lending side of the sheet. And you're also getting back to the margin going to start to see the uptick on the asset side loans and to a much lesser degree, securities, just given most of those are fixed rate, given that we are still asset sensitive. So I think on the other side of the sheet, though, and your next question is probably just the deposit betas. We're going to be -- I mean, we're very fortunate, Mark should comment that with the deposit franchise we've got. I think going forward, you have to assume that market is going to drive the rates. And we're not going to be able to hold deposit betas as 0 forever in this up rate environment. And as you know, I think we've talked about this before. The interest rate sensitivity tables we put in the IR deck do have a 70% beta baked into them. So even at that, what I would call high level, you'd still see the NII expansion, right, and just the overall efficiency of the funding. I pause there, Mark, anything else you would add to that?

No, no. I think you covered it well, Greg. And again, we're going to get some benefit as well coming off of our floors this quarter as well coming up. So no, I'm pretty comfortable that we'll have some management to our NIM throughout the rest of the year.

Yes. And I think what Mark just touched on to with the floors again. We're already positioning thinking about what happens in the next rate-down environment. Chris, as we go through this. So we're not thinking there's any demonstrable shift we need to do to position the balance sheet for rates up. It's really again, we feel pretty good at the structural benefit of those floors, but we in the back of our minds, have that eventuality of rates down in the back of our minds as we kind of roll through the operating environment.

Next again, we have Alex Lau with JPMorgan for follow-up.

Following up on deposit costs. So interest-bearing deposit costs were stable in the quarter. Can you talk about your expectations for when that just start ticking up based on what you're seeing from your customers and also competition?

Yes, I just got on that. Go ahead, Mark.

No, go ahead, Greg. I apologize.

No, it's okay. I think I'd just touched on that a little bit just now with Chris, my response there. But I think going forward, you clearly see more conversations going on even with the high-quality client base we've got around rates. And we've been very successful at this point, just being efficient and patient. But I think the market is going to drive that going forward. We're not in a mass affluent marketplace. We don't have a lot of retail, small dollar balance retail accounts. These are more high net worth, ultra-high net worth customers and commercial clients, which I think is going to drive some of the outcome here. So again, I think you're going to start to see betas lift off of 0. Where it lands north of that as we kind of go through the next couple of rate increases, it's hard to tell, Alex. But again, I think you're still going to see some level of -- I would expect to still see some level of NIM expansion just given that we are asset-sensitive and over 40% of the loans are effectively going to be floating rate loans by the time we see a rate move next week. So I hope that helps.

And Alex the other thing to keep in mind, Alex, we don't expect to do anything programmatic. We deal with a rate discussion on a case-by-case basis. So we should not be shocked with any major shift going forward.

That's helpful. And when you think about your deposit beta, do you have the prior cycle to date deposit beta from the last rising rate cycle? And where do you expect to land around this time relative to that?

I actually don't have that on my fingertips. And it's kind of -- I think it's hard to use that as a predictor for this cycle as well, just given the pace and the size of the individual raises. So I'm not sure if I had it in my fingertips, would be terribly helpful to you. I think Mark's point though is the right one, which is, again, we're not expecting any large programmatic shifts across the verticals, and we're going to continue to focus on longer-term efficiency of funding and NII accretion.

Got it. And just following up on the $1.2 billion in deposits from digital asset clients that was up 13% in the quarter. Can you just explain how balances rose in the current market environment of lower prices, higher transaction volume?

Just client acquisition. There are still a lot of investors out there that are as they call themselves, crypto long and putting Voyager aside, who was on a good trajectory if it wasn't for the leverage. The companies that are not leveraged, they're out there with client acquisition. And also, there is somewhat of a disruption going on right now in that industry. And to the extent that you are in exchange, this is an opportunity for you to capture new client acquisitions. So you're going to see some expansion in this business for some time. Where it ends and where it lands as an asset class is a whole another discussion. But it did not surprise me that there was a little bit of a recovery in this space because the crypto clients are really out there looking to pick up client acquisition.

Yes, I agree with that. I think it's day-by-day, week-by-week as well. What we've not seen -- we've certainly seen over the last couple of months, certainly since middle May is underlying investors have come out of a digital asset, whether it's Bitcoin or a stable coin and gone into cash. They've been rotating back in typically buying another digital asset. What we've not seen is really people leaving the ecosystem. So to Mark's point, I think it's been a bit more stable than some folks would have expected over this horizon.

That's very good color. Staying on GPG. So just drilling in on the outgoing dollars in GPG revenue, down $400,000. Largely from the crypto GPR business, is this the onetime revenues you mentioned? And in this line, how does lower prices in crypto impacts this fee income stream?

I'll start and Mark can clean me up on the last part of that question. But if you go to Page 14 of the IR deck, you already pointed out the crypto GPR down a little bit in the quarter. The other one where we saw again some onetime revenues in the first quarter that -- sorry, not onetime, but just the elevated non-transactional revenues were that top box, which is the GPR card. The other one I'd point out on that page is really the very bottom, which is corporate disbursements went from 373 to 517. So in the quarter, you did see a bit of transaction volume coming down on the crypto GPR cards, but it was actually made up for on volumes across some of the other classes, including the GPR card volumes were up. And notably, the corporate disbursement volumes are up as well. And I'll pause there and Mark, if you have any comments on just the pricing side and the stability over time.

Yes. There really isn't any correlation between revenue and the value of a crypto asset. The only correlation is volume. So if investors believe the asset class is going to appreciate, they will come out of cash and purchase digital assets, therefore, increasing volumes and therefore, revenue, you'll see a direct correlation with revenue but you will also see deposits coming down. And in the reverse, if people are exiting the asset class, volumes will go up, transaction volumes go up, therefore, a correlation to revenue. But -- and then when they're out of that asset class, cash balances increase if they don't leave, as Greg called it, the ecosystem permanently.

And there was a smaller piece of GPG income, $0.5 million from crypto exchanges. Is that the same with regard to your comments about how prices are less relevant, and it's more about volume?

I can't put to that $0.5 million. I don't know where you're pointing to, but our business is all about transactions. Our revenue generators here are all about transactions and fee for retail services.

Yes. Quarter-on-quarter, Alex, that crypto exchange OTC went from 133 to 135. The bottom box you're looking at again was the corporate disbursements. So we'll get that cleaned up on the IR website. We did see that this morning, just to make the legend a little easier for you.

Got it. And then on expenses, can you speak to how you're thinking about expense growth for the year, given strong benefits from higher rates and good growth? What are some of the investments underway? And maybe how should we think about expense growth for the year?

Yes. I mean, as you know, we've talked about consistently, we are a growth company. You did touch on benefits and the human capital side of the equation. So I think we're obviously going to have to make sure we keep pace on the investment with the employees we've got. But as a growth company, we are still continuing to invest in people and bring in people that are going to help us scale and provide stability of revenues as well. So again, I think one of the primary areas of investment on the expense side is going to be in people. You're going to see the first quarter to second quarter and kind of neutralize for the some of the lumpy one first quarter expenses, you definitely saw some uptick versus the second quarter in that investment. You're going to see that continue over the balance of the year, maybe accelerate a little bit. And as we've talked about technologies, the other big piece we're really focused on. We really haven't done a lot yet in terms of build for where we're headed in that space. But I think by the second half of this year, certainly by the fourth quarter, you're going to start to see us make some progress there as well. Again, it's not an outside spend or any large investment, but it's meaningful for us, I think, in terms of the operating environment going forward and just the scalability and sustainability of the businesses. I think more broadly, again, we're not looking at it month-to-month, quarter-to-quarter. We still remain very focused on both getting a return pretty quickly on our investments in human capital and technology and having that focus on positive operating leverage. But you're not always going to see that positive operating leverage translate into a decrease in the efficiency ratio quarter-to-quarter. You've got to definitely look at that year-over-year. And you've seen the numbers, you've seen the dramatic improvement we made in the efficiency ratio versus the first half of last year, the first half of this year. So we're thinking about it more in terms of how do we drive that overall positive operating leverage and frankly, net income growth. So I don't think coming out the other way, which I know you're going to look at is from the efficiency ratio, I think we're in a range right now. I think over time, you're going to see us continue to work that down. You shouldn't necessarily expect us to do that every quarter, but we're very pleased with the progress we've made over the last year on that.

[Operator Instructions] This concludes our allotted time for questions. I would now like to turn the call back over to Mark DeFazio for any additional or closing remarks.

I would just like to say thank you again for having the confidence in MCB and this is a marathon, and we're very pleased with where we are and what we've accomplished after 23 years, and we're excited about the future as well. So thank you again for taking the time out this morning and look forward to having more face-to-face meetings with our investors in the coming months. Thank you.

Thank you. This does conclude today's conference call and webcast. A webcast archive of this call can be found at www.mcbankny.com. Please disconnect your line at this time, and have a wonderful day.