Merchants Bancorp — Q1 2021 Form 10-Q
Reporting period: Three months ended March 31, 2021; interim financial statements are unaudited. Merchants Bancorp is a bank holding company with multi-family mortgage banking, mortgage warehousing, and banking operations.
Financial performance and condition
| Metric | Q1 2021 | Comparable / reference |
|---|---|---|
| Interest income | $79.5 million | $60.4 million in Q1 2020 |
| Net interest income | $72.0 million | $38.4 million in Q1 2020 |
| Noninterest income | $43.9 million | $19.9 million in Q1 2020 |
| Net income | $62.0 million; $58.2 million allocated to common shareholders | $24.6 million in Q1 2020 |
| Diluted EPS | $2.02 | $0.73 in Q1 2020 |
| Net interest margin / spread | 2.99% / 2.93% | 2.40% / 2.19% in Q1 2020 |
| Efficiency ratio | 26.0% | 38.3% in Q1 2020 |
| Cash flow | Operating +$295.8 million; investing -$194.7 million; financing -$11.4 million | Cash and equivalents ended at $269.4 million, up $89.7 million from year-end 2020 |
Net income rose 152% year over year. The filing attributes the improvement chiefly to higher net interest income from loan growth and lower funding costs, higher loan-sale gains, and a favorable mortgage-servicing-rights (MSR) fair-value adjustment. Reported net interest margin and earnings benefited from those factors; MSR valuations and mortgage production can fluctuate.
At March 31, 2021, total assets were $9.71 billion, deposits $8.06 billion, borrowings $545.2 million, loans receivable net of allowance $5.71 billion, loans held for sale $2.75 billion, and shareholders’ equity $1.01 billion. Versus December 31, 2020, assets increased $59.9 million, deposits increased $655.1 million, and borrowings decreased $803.1 million. Loans held for investment grew $202.4 million, including multi-family and healthcare loans up $457.6 million, partly offset by warehouse lines down $271.2 million.
Unused FHLB and Federal Reserve credit lines totaled $3.7 billion based on available collateral; AFX borrowing capacity was an additional $250 million, with availability subject to change. The company reported CBLR leverage ratios of 10.1% for the holding company, 9.5% for Merchants Bank, and 9.6% for FMBI, above the applicable 8.5% well-capitalized threshold. Management said all three met regulatory capital requirements.
The loan-loss allowance was $29.1 million, or 0.51% of loans, versus $27.5 million at year-end 2020. Nonperforming loans were $4.7 million, or 0.08% of loans, compared with $6.3 million, or 0.11%, at year-end. Nine loans totaling $37.2 million remained under COVID-related payment modifications; management said the increase from $0.9 million at year-end reflected one fully collateralized multi-family loan for which full repayment was expected.
Material changes and unusual items
- Noninterest income increased 121% year over year. Loan servicing fees included a $6.9 million positive MSR fair-value adjustment, versus a $6.5 million negative adjustment in Q1 2020. MSR carrying value reached $96.2 million.
- Noninterest expense rose 35% to $30.1 million, mainly from higher salaries and employee benefits supporting production and increased loan expenses.
- The company issued $150 million of 6% Series C preferred stock in March, receiving $144.9 million net of offering costs. After quarter-end, it redeemed $41.6 million of 8% preferred stock, plus $139,000 of unpaid dividends; former holders subsequently purchased $46.1 million net of expenses of Series C preferred stock.
- Debt-fund entities were deconsolidated after a February 1, 2021 restructuring reduced the company’s involvement and it ceased to be their primary beneficiary. Approximately $10 million of net assets were removed; no material gain or loss was recorded. Maximum loss exposure on continuing investments was approximately $10 million.
- Operating cash flow was positive in Q1 2021 versus negative $871.6 million in Q1 2020. The company’s mortgage origination, sale, and warehouse activity creates large operating cash-flow movements; interpret this figure alongside loan sale and funding activity.
Outlook, commentary, and risks
No specific earnings or growth guidance is provided. Management said it did not expect to maintain the 2020 asset-growth rate, but could pursue opportunities that might take assets above $10 billion. It anticipated renewing a substantial portion of the $349.7 million of certificates of deposit maturing within one year and said it expected sufficient funds for current loan-origination commitments.
Management cited COVID-19 uncertainty, credit quality and allowance estimates, real-estate values, borrower and construction-project performance, interest-rate movements, deposit retention and funding costs, liquidity, competition, cybersecurity, regulation, and execution of growth plans as risks. Brokered deposits can be rate-sensitive; failure to retain maturing deposits could require more expensive funding. Multi-family servicing may require the company to advance principal and interest to investors even when borrowers do not pay. Management reported no multi-family servicing forbearance requests as of March 31 and believed it could fund potential advances.
Interest-rate sensitivity analysis indicated modeled net interest income increases under all disclosed rate-shock scenarios; modeled economic value of equity declines in rising-rate scenarios. Management stated that both measures were within board policy limits. COVID-19 may affect estimates, including the loan-loss allowance and MSR values. Management expects CECL adoption could increase the allowance but could not yet quantify the effect. The company reported effective disclosure controls, no material change in internal control, no legal proceedings, and no material changes to previously disclosed risk factors.
Important facts for investors to verify
- How much of earnings growth is recurring net interest income versus loan-sale income and MSR fair-value movements.
- Whether multi-family loan growth, watch-list exposures, COVID-related modifications, and the allowance remain consistent with actual credit performance.
- Deposit mix, brokered-deposit levels, renewal rates, borrowing availability, and liquidity needs as warehouse and mortgage volumes change.
- Capital ratios and eligibility for the community bank leverage ratio, particularly if assets exceed $10 billion or applicable thresholds change.
- The subsequent preferred-stock redemption and Series C issuance, including dividend costs and terms; confirm the effect on capital and common-shareholder returns.
- The eventual impact of CECL adoption and the timing and effect of LIBOR transition on affected loans and other instruments.