Merchants Bancorp — Q2 2021 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2021; interim financial statements are unaudited. Merchants Bancorp is an Indiana bank holding company focused on multifamily mortgage banking, mortgage warehousing and community banking.
Financial results and position
| Metric | Q2 2021 | Q2 2020 | Six months 2021 | Six months 2020 |
|---|---|---|---|---|
| Net interest income | $64.4 million | $51.2 million | $136.4 million | $89.6 million |
| Noninterest income | $32.9 million | $26.2 million | $76.8 million | $46.1 million |
| Net income | $51.4 million | $41.2 million | $113.4 million | $65.7 million |
| Diluted EPS | $1.58 | $1.31 | $3.60 | $2.03 |
| Net interest margin | 2.75% | 2.42% | 2.87% | 2.41% |
| Efficiency ratio | 29.0% | 26.2% | 27.3% | 31.4% |
- At June 30, 2021, total assets were $9.88 billion, deposits $8.04 billion, borrowings $701.4 million, and shareholders’ equity $1.06 billion. Cash and cash equivalents were $402.0 million.
- Loans receivable, net, were $5.44 billion; loans held for sale were $2.96 billion; and mortgage loans awaiting securitization were $461.9 million. The allowance for loan losses was $28.7 million, or 0.52% of loans receivable.
- Q2 provision was a $315,000 credit; six-month provision was $1.35 million. Nonperforming loans were $3.0 million, or 0.05% of loans, versus 0.11% at year-end 2020.
- Six-month cash flows: $270.6 million provided by operating activities, $165.7 million used in investing activities, and $117.4 million provided by financing activities. Cash increased $222.3 million to $402.0 million.
- Regulatory leverage ratios under the Community Bank Leverage Ratio framework were 10.9% for the company, 10.8% for Merchants Bank and 9.6% for FMBI, above the applicable 8.5% threshold.
Changes versus comparable periods
- Q2 net income rose 25% and diluted EPS rose 21% year over year. Six-month net income increased 72%.
- Lower funding costs drove much of the net interest income growth: Q2 deposit interest expense declined 57%; six-month deposit interest expense declined 65%. Loan interest income also increased with higher balances, especially multifamily lending.
- Gain on loan sales rose to $25.1 million in Q2 and $53.7 million for the six months, mainly from higher multifamily activity. Six-month servicing income improved, including a $7.5 million positive mortgage-servicing-rights fair-value adjustment, compared with a $7.0 million negative adjustment in 2020.
- Expense growth partly offset earnings gains. Salaries and benefits increased 60% in Q2 and 54% for the six months, attributed primarily to production-related staffing and commissions. Q2 efficiency ratio worsened, while the six-month ratio improved.
- Total assets increased 2% from year-end. Deposits increased 9%, while borrowings declined 48%. The warehouse loan portfolio fell 27% from year-end as management actively managed asset levels; multifamily and healthcare loans grew 8%.
Outlook, commentary, risks and notable items
- The filing provides no specific earnings or financial guidance. Management said it did not expect to continue the same asset growth rate as in 2020, while retaining the possibility of pursuing growth opportunities.
- Management described credit quality as strong and said the company was monitoring COVID-19 effects. Four loans totaling $37.0 million remained under COVID-related payment modifications; management said one multifamily loan accounted for the increase from year-end and was fully collateralized, with full repayment expected.
- Multifamily loans on traditional watch status totaled $149.0 million. The filing cites project cost overruns, lower-than-projected rents and occupancy, and reduced project cash flows. These loans decreased slightly from year-end but were higher than in June 2020.
- Liquidity resources included $3.3 billion of unused FHLB and Federal Reserve lines, plus $325 million of AFX borrowing capacity, both subject to availability. $381.3 million of certificates of deposit were scheduled to mature within one year; management expected substantial renewal. Brokered deposits were 11% of total deposits, down from 16% at year-end, but may be more rate-sensitive.
- Interest-rate sensitivity modeling projected a 25.6% increase in one-year net interest income under a +200 basis-point scenario and an 8.5% decline under a -100 basis-point scenario; management said modeled scenarios remained within board limits. A separate economic-value analysis showed a decline under rising-rate scenarios.
- In May, Merchants sold and securitized $262.0 million of multifamily loans with Freddie Mac and purchased $28.7 million of securities. The company retained a first-loss exposure capped at approximately $26.2 million and recorded a $1.4 million reserve.
- The company issued $191.1 million net of costs of Series C preferred stock and redeemed $41.6 million of 8% preferred stock. Management identified future CECL adoption as potentially increasing the allowance for loan losses; the ultimate impact was still being assessed.
- Other disclosed risks include COVID-19 and economic conditions, borrower and real-estate credit quality, interest rates, funding and liquidity, regulatory compliance, cybersecurity, competition, growth execution, and servicing or legal exposures. The filing reported no material change to previously disclosed risk factors, no legal proceedings, and effective disclosure controls.
Investor verification priorities
- Track multifamily watch-list loans, project cash flows and performance of the $37.0 million of modified loans.
- Assess sustainability of loan-sale gains and mortgage-servicing-rights valuations, including sensitivity to prepayments and interest rates.
- Monitor deposit pricing, brokered-deposit renewals, borrowing capacity and liquidity as certificates mature.
- Review the retained first-loss exposure and reserve associated with the Freddie Mac securitization.
- Follow CECL implementation estimates and the effect of asset growth on regulatory capital and CBLR eligibility.