Bridgewater Bancshares, Inc. (NASDAQ:BWB) Q1 2024 Earnings Call Transcript

Bridgewater Bancshares, Inc. (NASDAQ:BWB) Q1 2024 Earnings Call Transcript April 25, 2024

Bridgewater Bancshares, Inc.  isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good morning, and welcome to the Bridgewater Bancshares 2024 First Quarter Earnings Call. My name is Andrea, and I will be your conference operator today. All participants have been placed in listen-only mode. After Bridgewater’s opening remarks, there will be a question-and-answer session. [Operator Instructions]. Please note that today’s call is being recorded. At this time, I would like to introduce Justin Horstman, Vice President of Investor Relations to begin the conference call. Please go ahead.

Justin Horstman: Thank you, Andrea and good morning, everyone. Joining me on today’s call are Jerry Baack, Chairman, President and Chief Executive Officer; Joe Chybowski, Chief Financial Officer; Jeff Shellberg, Chief Credit Officer; and Nick Place, Chief Lending Officer. In just a few moments, we will provide an overview of our 2024 first quarter financial results. We will be referencing a slide presentation that is available on the Investor Relations section of Bridgewater’s website investors.bridgewaterbankmn.com. Following our opening remarks, we will open the call for questions. During today’s presentation, we may make projections or other forward-looking statements regarding future events or the future financial performance of the company.

We caution that such statements are predictions and that actual results may differ materially. Please see the forward-looking statement disclosure in the slide presentation and our 2024 first quarter earnings release for more information about risks and uncertainties, which may affect us. The information we will provide today is as of and for the quarter ended March 31, 2024, and we undertake no duty to update the information. We may also disclose non-GAAP financial measures during this call. We believe certain non-GAAP financial measures, in addition to the related GAAP measures provide meaningful information to investors to help them understand the company’s operating performance and trends and to facilitate comparisons with the performance of our peers.

We caution that these disclosures should not be viewed as a substitute for operating results determined in accordance with GAAP. Please see the slide presentation and 2024 first quarter earnings release for reconciliations of non-GAAP disclosures to the comparable GAAP measures. I would now like to turn the call over to Bridgewater’s Chairman, President and CEO, Jerry Baack.

Jerry Baack: Thank you, Justin and thank you everyone for joining us today. During the first quarter, we were pleased to see the continuation of many of the same trends we saw over the back half of 2023 as we continue to navigate the current economic environment. Most notably, business activity continued to pick up in the Twin Cities. As we mentioned last quarter, our loan pipeline increased due to rising loan demand. This translated into stronger than expected loan growth in the first quarter with balances up 6.5% annualized. Even more encouraging was that deposit growth outpaced loan growth once again, including annualized core deposit growth of 14.3%. As a result, our loan deposit ratio dropped below 100% for the first time since the first quarter of 2022.

We have several initiatives in place to help drive continued core deposit growth over time. This include investments in our treasury management team through the hiring of a new sales lead, as well as the creation of a new deposit coordinator position that will be focusing on proactive outreach. We’re also continuing to see traction in our business development initiatives, including implementers of the entrepreneurial operating system and the network of women business leaders and entrepreneurs we’ve mentioned in the past. While market demand and business activity remain encouraging, the interest rate environment remained challenging in the first quarter as we wait for more progress on inflation and ultimately a more normalized yield curve, a scenario that would be favorable for Bridgewater.

With interest rates remaining elevated, we continue to see slight net interest margin compression as expanding loan yields were offset by a slower pace of rising funding costs. Joe will provide more details in a few minutes. Expense control was another highlight of the first quarter as non-interest expense declined 3.5% from the fourth quarter. Identifying new operational efficiencies remains a bank wide effort across the organization in 2024. These could be initiatives that help us reduce costs, get things done quicker or eliminate tasks that no longer add value. Bridgewater has always operated very efficiently, but we continue to look for ways to take this to the next level. On the other hand, we are continuing to make investments in the business through people and technology.

For example, we have selected a new online banking that will provide an enhanced experience for a retail of small business clients. We are also on track for implementation of a new CRM platform later this year that will allow us to provide more customized support across our client base. Asset quality was a superb once again with no net charge offs, very low levels of non-performing assets and increased provision due to stronger loan growth. While our loan portfolio continues to perform well, we also recognize the broader industry concerns around office and multifamily over the past several months. Jeff will share some thoughts on what we are seeing in the Twin Cities in just a few minutes. But overall, we have been pleased with the performance of these portfolios, given the experience and expertise of our teams and remain bullish over the long-term.

We also continue to see steady tangible book value per share growth, up another 11.8% in the first quarter. This marks the 29th consecutive quarter of tangible book value per share growth at Bridgewater. Turning to Slide 4, you can see our tangible book value is up over 190% during these 29 quarters, compared to a median of just 60% with banks between $3 billion and $10 billion in assets. We continue to feel that this is a true differentiator for Bridgewater and in the way we can provide shareholder value going forward. I would also mention that we continued repurchasing shares during the first quarter. We bought back nearly 194,000 shares or $2.3 million. With that, I will turn it over to Joe.

Joe Chybowski: Thank you, Jerry. Turning to Slide 5, the pace of net interest margin compression slowed again in the first quarter down just three basis points compared to a five basis point decline in the fourth quarter. While earning asset yields continued to reprice higher, deposit pricing pressures also persisted, albeit at a slower pace given market competition and mix shifts within the deposit portfolio. Loan fees have also continued to decline in the current rate environment. With the outlook for potential rate cuts less favorable than it was a few months ago, we expect similar trends in the near term, which could result in continued modest margin pressure. However, our focus remains more on the revenue side in the absolute dollars.

Even with modest margin pressure, we believe we are reaching an inflection point on net interest income supported by stronger balance sheet growth. I would also remind you that our balance sheet remains well positioned for potential future interest rate cuts and a more normalized yield curve. We have over $1 billion of adjustable funding tied to short term rates and a loan portfolio that is positioned to continue repricing higher even in a rates down environment. Turning to Slide 6, you can see the portfolio loan yields steadily moving higher. While the more moderated pace of loan originations over the past year had slowed the repricing of the portfolio, we did see an uptick in loan growth in the first quarter which could provide some additional support as new money loan yields come on in the mid to high 7s.

In addition, the impact of loan fees on the portfolio loan yield was down to just seven basis points in the fourth quarter compared to a 30 basis point impact in mid-2022 as payoffs have declined in the current environment. Our securities portfolio continues to support our overall earning asset yields as securities yields increased another 17 basis points to 4.8%. We have continued to grow our AFS portfolio as loan growth moderated. However, given the loan pipeline build, we do expect the pace of securities portfolio growth to moderate. While funding costs continue to increase, the pace has slowed. Deposit costs increased 13 basis points in the first quarter, while overall funding costs were up 11 basis points, both lower than last quarter.

With the increased uncertainty around the timing of potential interest rate cuts, we would expect these trends to continue in the near-term. Slide 7 shows the pre-provision net revenue stabilization we have seen in recent quarters as the pace of margin compression has slowed and loan growth resumes. Turning to Slide 7, expense control was another highlight of the quarter as non-interest expense declined 3.5% from the fourth quarter of 2023. The decrease was primarily driven by lower salary and benefits, FDIC insurance, and other expenses. You may recall that we saw a similar decline in non-interest expense in the first quarter of 2023 with expenses building throughout the rest of the year. We would expect a similar expense trajectory throughout 2024 with full-year expenses again tracking in line with full-year asset growth.

We also saw a decline in our efficiency ratio in the first quarter for the first time since the third quarter of 2022, keeping in mind that our efficiency ratio remains well below the industry median. Overall, we feel good about our ability to control expenses, while still making key investments in the business, technology and our people. With that, I’ll turn it over to Nick.

Nick Place: Thanks, Joe. Turning to Slide 9, we generated strong deposit growth in the first quarter with total balances up 10.5% annualized. This included core deposit balances which increased $90 million or 14.3% annualized. We’ve continued to see good core deposit momentum since last March as balances were up 6.8% year-over-year. I would remind you that given the nature of our client base, core deposit growth isn’t always linear and may have some ups and downs from quarter-to-quarter. The second quarter for instance tends to be a seasonally low quarter for deposits due to tax season and industry cyclicality. We also continued to see various deposit mix changes during the quarter including some non-interest deposits moving into interest bearing accounts.

This was not surprising as our non-interest bearing deposit balances had actually been quite resilient during much of 2023 increasing each of the past three quarters. On the other hand, for the first time since the third quarter of 2022, we saw a nice decline in broker deposits with balances down $32 million during the quarter. We will continue to leverage broker deposits as a way to supplement core deposit growth over time as needed. These overall deposit mix changes have contributed to funding costs continuing to slowly move higher. However, from a broader funding perspective, we have ample repricing opportunities if rates move lower. As Jerry mentioned, we are executing on several initiatives to support our focus on core deposit growth and have been pleased with the progress so far.

Turning to Slide 10, loan balances grew 6.5% annualized in the first quarter as a result of the increased demand and growing loan pipelines we started seeing in late 2023. We were pleased to see this activity translate into such strong loan growth so early in the year. The level of loan demand in the Twin Cities continues to be higher than last year, which we think will create additional opportunities for growth throughout the year. However, we continue to be disciplined in our lending approach prioritizing core client relationships. As we look ahead to the rest of 2024, we would expect to see loan growth continue in the low to mid-single-digit range. There are several factors that will impact this, including ongoing loan demand, the interest rate environment, pace of payoffs and our core deposit growth.

Even with the strong loan growth, we were able to lower our loan-to-deposit ratio below 100% due to our continued momentum on the deposit front. Slide 11 shows the increase we have seen in new loan originations over the past few quarters. In fact, new loan originations exceeded loan advances in the first quarter for the first time since the fourth quarter of 2022. On the other hand, loan payoffs and pay downs remain at relatively low levels given the higher interest rate environment. On Slide 12, you can see the loan growth during the quarter was spread across our various portfolios led by non-owner occupied CRE and C&I. Construction and development balances continue to decline as deals completed their construction phase. I’ll now turn it over to Jeff.

Jeff Shellberg: Thanks, Nick. Slide 13 provides some additional information on our multifamily and office portfolios, asset classes that have been in the headlines recently. Over 90% of our multifamily loans are in the Twin Cities, a market in which we have a tremendous amount of multifamily experience and expertise. This is a big reason why we have only experienced $62,000 in net charge-offs in the portfolio since we started the bank in 2005. The Twin Cities multifamily market has historically been a stable market with less volatility than some of the coastal and high growth markets. Key attributes of the market include relative affordability, low unemployment, strong wages, and a shortage of single family housing. That said, this market is not immune to normal real estate cycles that can impact any asset class.

For example, we have seen an uptick in multifamily vacancies due to the amount of new multifamily construction and deliveries the past few years. Looking forward, market vacancies are expected to peak later this year and then decline as absorptions now exceed deliveries and new construction has slowed due to the current interest rate environment. We continue to monitor the portfolio closely, but have been pleased with this performance to date and remain bullish on multifamily in the Twin Cities over the long-term. Looking at our non-owner occupied CRE office portfolio, our exposure remains quite limited, making up just 5% of total loans. This includes only four loans located in the central business districts totaling $35 million. During the first quarter, we moved one of these loans, a Central Business District property in St. Paul to the watch list due to potential lease rollover risk.

Similar to multifamily, we continue to monitor this portfolio closely, especially the few central business district loans that we have. Looking at the office portfolio as a whole, we continue to feel good about the outlook given the lower average loan amount, diversified client base and primarily midwestern suburban office exposure. Turning to Slide 14, we continue to see strong performance across the entire portfolio as we had no net charge-offs in the first quarter and non-performing assets declined to $269,000 or 0.01% of total assets. This is a result of our measured risk selection, consistent underwriting standards, active credit oversight, and experienced lending and credit teams. We remain well reserved at 1.36% of gross loans. This included $850,000 of provision during the quarter, primarily due to stronger loan growth.

Overall, we continue to feel good about our loan portfolio. That said, as this higher interest rate environment continues to put pressure on businesses, we do expect to see some credit normalization over time. On Slide 15, you can see that our watch and substandard both declined modestly during the quarter. As I mentioned, we moved one central business district office loan to watch, while a couple of other relationships migrated out. We feel good about the risk profile of the portfolio and believe it is well positioned moving forward. I’ll now turn it back over to Joe.

Joe Chybowski: Thanks, Jeff. Slide 16 highlights our strong capital ratios, including CET1, which increased from 9.16 to 9.21. In addition, we were able to repurchase additional shares during the first quarter as we bought back nearly 194,000 shares at a weighted average price of $11.75 per share for a total of $2.3 million. We still have 18.2 million remaining under our current authorization. We will continue to evaluate future repurchases based on a variety of factors, including capital levels, growth opportunities and market conditions. Share repurchases are just one of our capital priorities. Our primary capital priority remains organic growth. Beyond that, we continue to review and monitor potential M&A opportunities. Turning to Slide 17, I’ll recap our expectations over the next couple of quarters.

We expect loan growth in the low to mid-single-digit range over the next few quarters as we continue to see increased levels of loan demand. Our pace of growth will ultimately be impacted by ongoing loan demand, market conditions, the pace of payoffs and core deposit growth. With uncertainty around the interest rate outlook, we expect to continue seeing modest net interest margin pressure in the near term. However, even with additional margin pressure, we believe we are reaching an inflection point on net interest income supported by stronger balance sheet growth. Our margin is also well positioned to benefit if we start seeing rate cuts and an upward sloping yield curve. On the expense side, we expect full-year non-interest expense in 2024 to track relatively in line with asset growth, similar to prior years.

However, we would expect to see a similar trajectory throughout the year as we saw in 2023, with expenses starting out low in the first quarter and building in subsequent quarters. The provision expense will likely be tied to our pace of loan growth and the overall asset quality of the portfolio. Finally, we believe we can continue to maintain strong capital ratios through earnings retention and disciplined growth. I’ll now turn it back over to Jerry.

Jerry Baack: Thanks, Joe. Finishing on Slide 18, I’ll provide a quick update on our 2024 strategic priorities. First, as we look to optimize our balance sheet for longer-term growth, we made strong progress on core deposits with annualized growth of 14.3% during the first quarter. Second, we continue to focus on expanding our client base through additional affordable housing efforts, as well as hosting successful networking events at our corporate office for local women business leaders and entrepreneurs. In addition, with cannabis becoming legal in Minnesota last year, we’re even doing our due diligence on this space to prepare to respond to inquiries from entrepreneurial clients. Third, departments across the bank have been identifying ways they can incrementally approve — improve operational efficiencies within their groups.

In addition, we lowered our efficiency ratio in the first quarter for the first time since 2022. Finally, we remain proactive on monitoring our portfolios to get ahead of any potential concerns. As a result, our overall asset quality has remained superb. Overall, we were pleased with the strong balance sheet growth we saw in the first quarter, including both loan activity and core deposits, as well as our ability to consistently grow our tangible book value per share through various economic environments. With that, we will open it up for questions.

Operator: We will now begin the question-and-answer session. [Operator Instructions]. And our first question comes from Brendan Nosal of Hovde Group. Please go ahead.

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Q&A Session

Brendan Nosal: Hey, good morning, guys. Hope you’re doing well?

Jerry Baack: Hi, Brendan.

Brendan Nosal: I think we start off here on kind of thoughts around on growing the margin. You guys think there is a path for NIM inflection without help from the Fed. And then kind of along those lines, if we don’t get any touch from the Fed until like late the fourth quarter, higher for longer, where do you see the margin settling as we get to the end of the year?

Joe Chybowski: Yes, Brendan, this is Joe. So, yes, to reiterate, I think we’ve said and we’ve obviously seen it, we’ve messaged to it that we’ve seen a slowing pace of margin compression certainly over the last couple of quarters, and have been pleased with that slowing compression. I just think just given the Fed more of a policy pivot here and the prospect for higher rates for longer, is really where we see potential near-term margin pressure. And I think that’s — it’s really two things, and we’ve talked about it in the prepared remarks. It’s the mix shift from non-interest bearing to interest bearing. So again, we’ve been pleased with how resilient the non-interest bearing book has been, but the longer we sit here, you certainly see clients more actively managing their money.

And so we have seen some migration, which certainly puts some pressure on the margin itself. And the other piece is just client acquisition. I mean, the market continues to be very competitive. And we’re really pleased with the core deposit growth we had in the quarter, but it’s competitive from a cost standpoint. So I think you put those two together and that’s where we see that you could see some near-term pressure just the longer that we sit here in this higher for longer environment. I think the other thing I’ll say though is, we’re more focused and less fixated on the NIM itself and more just on incrementally building NII. And I think we — as we’ve talked about, we see inflection to that, just given the pickup in loan growth, especially in the back half of the first quarter.

So that remains our focus on really growing the net interest income contribution, rather than the margin as an output.

Brendan Nosal: Yes, that’s totally fair. Maybe one more for me. Longer term is there like a desire or even ability to alter the bank’s rate risk positioning to bring the balance sheet closer to neutral? Should we kind of find ourselves in a similar environment at some point in the future? Just wondering the thought process there given how spread dependent the revenue base is?

Joe Chybowski: Yes, I could talk, I mean, probably two sides to that, one on the net interest income perspective and then more from a non-interest income perspective. But yes, I mean, the balance sheet and the positioning of that, I think, certainly, just given kind of the rate outlook over the last couple of quarters, I think we’ve really tried to balance out and neutralize, but also not dramatically change the liability sensitivity profile potentially in the face of Fed cuts. So I think we’re really cognizant of where the exposure is across the balance sheet. And I think we’ve remain focused on maintaining options on both sides of the balance sheet. Composition is a key piece to the loan portfolio. So I think we’ve been really focused on the fixed rate composition and to the extent we can broaden that by more variable rate funding or variable rate lending, I should say, as well as can you get more creative from a swap standpoint, and just being really cognizant of the sensitivity on the asset side, and then obviously maintaining optionality on the deposit side.

So I think we consider across the balance sheet, various instruments. And I think the other piece to that just you mentioned on the revenue side is, as we continue to look at opportunities to incrementally increase non-interest income. And I think for us to really move the needle, as we’ve always said that likely comes through M&A. I think we certainly don’t want to build a mortgage company brick by brick. But to the extent that resides in an M&A transaction, and that’s certainly something that we would strongly consider.

Brendan Nosal: All right. Fantastic. Well thanks for taking the questions and nice quarter guys.

Operator: The next question comes from Nathan Race of Piper Sandler. Please go ahead.

Nathan Race: Hi, everyone. Good morning. Thanks for taking the questions.

Joe Chybowski: Hi, Nate.

Nathan Race: Just going back to the last line of question around the margin outlook, just digging deeper into that, curious maybe Joe, if you can kind of provide us with the amount of loans that you have kind of maturing or repricing higher over the next year. And obviously, you guys had nice growth in the quarter and I imagine new coupons that are relatively above the portfolio yields. So just trying to kind of think about some of the additional [indiscernible] asset tailwinds that you could have this year?

Joe Chybowski: Yes, so on the loan side, we got a slide in the appendix that talks about just the fixed rate portfolio and the adjustable rate portfolio. So just north of $500 million rolling off, kind of in a blended 5%. So I think when we think about new money yields, like I said, I mean, it’s coming on in the mid to high 7s. So definitely meaningful repricing opportunities there. Just that’s just considering the roll off and then obviously any sort of net new growth. That answer your question, Nate?

Nathan Race: Yes, that’s helpful for sure. And just as you guys kind of look about the composition of the pipeline, which it sounds like it’s fairly healthy thus far in the second quarter. Is it more C&I weighted, obviously, had nice C&I growth in the quarter, but just trying to get a better sense in terms of the drivers and the low-to-mid single digit growth outlook?

Nick Place: Hey, Nate, this is Nick. I mean our pipeline is pretty consistently spread across what our portfolio looks like. I think we have been pleased to see some growth within our C&I portfolio. I think some of that in Q1 was some line utilization, so which we expect to sort of bounce around through the year. But across the pipeline, I think it’s pretty consistent with our overall portfolio mix. We continue to see good opportunities in both multi-family and non-owner occupied CREs. We did have a pullback in rates sort of at the end of last year and throughout first quarter that did start driving some transactions to pencil. So we’re pleased to see where the pipeline has been built to and how it sort of maintained here through Q1.