Merchants Bancorp — Q2 2023 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2023. Unaudited consolidated results. Merchants Bancorp is a bank holding company operating in multi-family mortgage banking, mortgage warehousing, and banking.
Financial performance
| Metric | Q2 2023 | Q2 2022 | Six months 2023 | Six months 2022 |
|---|---|---|---|---|
| Net interest income | $105.6m | $72.0m | $206.3m | $137.8m |
| Provision for credit losses | $22.6m | $6.2m | $29.5m | $8.7m |
| Noninterest income | $29.9m | $39.2m | $44.1m | $73.8m |
| Noninterest expense | $44.3m | $33.0m | $79.1m | $64.0m |
| Net income | $65.3m | $53.9m | $120.3m | $104.1m |
| Diluted EPS | $1.31 | $1.11 | $2.38 | $2.14 |
| Net interest margin | 2.97% | 3.03% | 3.11% | 2.82% |
| Efficiency ratio | 32.71% | 29.64% | 31.58% | 30.25% |
Q2 net income rose 21%, although income before taxes fell to $68.6m from $72.0m. Six-month net income increased 16%. The Q2 effective tax rate was 4.8%, versus 25.1% a year earlier; results included a $13.0m tax benefit. The six-month effective tax rate was 15.2%, versus 25.1%.
At June 30, total assets were $15.9b, up 26% from year-end 2022; net loans receivable were $9.9b, up 33%; deposits were $13.1b, up 30%; borrowings were $1.02b; and shareholders’ equity was $1.56b. Cash and cash equivalents were $377.3m. Six-month operating cash flow was negative $543.0m, investing cash flow negative $2.36b, and financing cash flow positive $3.05b.
Material changes and drivers
- Net interest income increased substantially as average loan balances and yields grew. For Q2, interest income rose $168.8m year over year, while interest expense rose $135.2m. Deposit costs rose sharply; the average cost of interest-bearing deposits was 4.60% versus 0.81% in Q2 2022.
- Q2 net interest margin declined 6 basis points year over year, while six-month margin improved 29 basis points. The six-month interest rate spread declined 15 basis points.
- Noninterest income declined 24% in Q2 and 40% for the six months, primarily reflecting lower loan-sale gains and lower servicing-right fair-value gains. Q2 loan-sale gains were $11.4m versus $21.6m.
- Credit-loss provision increased to $22.6m in Q2. Management attributed the increase to loan growth, an $8.2m allowance replenishment related to a multi-family charge-off, higher forecasted loss rates and qualitative adjustments, and higher specific reserves, primarily for a healthcare borrower. Q2 charge-offs were $9.5m.
- Loan growth was broad-based, including mortgage warehouse lines, multi-family, healthcare, and commercial lending. The allowance for credit losses was $63.0m, or 0.64% of loans, versus $44.0m, or 0.59%, at year-end.
Liquidity, capital, outlook and risks
- Management reported $5.3b of unused FHLB and Federal Reserve borrowing capacity. Cash, short-term investments, securitization pipeline loans, loans held for sale, warehouse lines, and unused borrowing capacity totaled $10.2b, or 64% of assets.
- Brokered deposits were $4.75b, equal to 36% of deposits, up from 27% at year-end. Uninsured deposits were approximately $2b, less than 20% of deposits. Certificates of deposit totaling $5.02b, or 97% of CDs, mature within one year. Management expects substantial renewal but warns that replacement funding or higher deposit rates could increase costs if retention is weaker.
- Nonperforming loans were $68.4m, or 0.69% of loans, versus $26.7m, or 0.36%, at year-end. Management said three customers primarily drove the increase. Loans more than 30 days past due totaled $92.9m; special-mention loans were $188.5m. Allowance coverage of nonperforming loans was 92%.
- Management stated that the company and its banking subsidiaries met regulatory capital requirements and were categorized as well capitalized. The bank’s common equity Tier 1 ratio was 10.6%; the holding company’s was 7.3%.
- Management expects the Indiana tax methodology change to reduce the overall effective tax rate by 1.0% to 1.5% in the future. It received a final Indiana revenue ruling supporting the revised methodology on July 21, 2023; amended state returns and refund requests were planned.
- The Board expected to declare a quarterly common dividend of $0.08 per share in each quarter of 2023. No specific earnings or balance-sheet guidance was provided.
- Interest-rate sensitivity modeling showed estimated one-year net interest income changes of negative 21.0% and negative 10.5% under rate declines of 200 and 100 basis points, and positive 7.3% and 13.7% under increases of 100 and 200 basis points. Management said results were within board policy limits. Key disclosed risks include credit quality, funding and deposit pricing, interest rates, liquidity, real-estate values, growth execution, and cybersecurity.
Most important facts for investors to verify
- Whether the anticipated tax refunds are collected and the expected 1.0%–1.5% future effective-tax-rate reduction is realized.
- Performance and credit developments for the three customers linked to higher nonperforming loans, including the multi-family charge-off and healthcare-specific reserves.
- Deposit retention, upcoming CD renewals, brokered-deposit dependence, and the effect of funding costs on net interest margin.
- Whether loan growth and earnings can be sustained as loan-sale gains and servicing-right valuation gains remain lower, and whether credit provisions rise further.
- Actual liquidity and capital levels relative to management’s reported borrowing capacity, uninsured deposits, and regulatory capital status.