ConnectOne Bancorp - Earnings Call - Q2 2025

Executive Summary

• Q2 2025 GAAP diluted EPS was $(0.52) driven by $30.7M merger charges and a $27.4M day-1 CECL provision tied to the FLIC merger; operating diluted EPS was $0.55 and operating ROA was 0.89%.
• Net interest margin expanded 13 bps sequentially to 3.06% and operating efficiency improved to 49.2% on stronger core deposits and accretion; nonperforming assets fell to 0.28% of assets.
• Management guided further NIM expansion of ~10 bps in each of Q3 and Q4 toward ~3.25% FY25, a quarterly expense run-rate of ~$55M in 2025, and targets of ~1.2% ROA and ~15% ROTCE into 2026.
• Strategic catalysts: successful Long Island integration, deposit mix improvement (DDA >21%), margin trajectory, and potential reversal of day-1 CECL if rule changes finalize; watch for ongoing cost saves and accretion benefits (~$9.8M/quarter in 2025).

What Went Well and What Went Wrong

What Went Well

• Net interest margin widened to 3.06% (up 13 bps q/q), aided by deposit cost declines and ~$3.3M purchase accounting accretion (~13 bps to NIM).
• Integration milestones: “core systems conversion was successfully completed,” strong client retention, and DDA mix improved to >21% with loan-to-deposit ratio at ~99% post-merger.
• NPA metrics improved: nonperforming assets down to $39.2M and 0.28% of assets; ACL coverage of nonaccruals rose to 398%.

Quotes

• CEO: “This transformational merger establishes ConnectOne as a $14 billion regional financial institution with 61 locations and more than 700 banking professionals.”
• CEO: “Operationally, the merger has significantly improved our loan and deposit mix, net interest margin, credit metrics, and profitability ratios.”

What Went Wrong

• GAAP loss to common of $(21.8)M largely from $30.7M merger expenses and $27.4M day-1 CECL provision; total provision rose to $35.7M.
• Noninterest expenses surged to $73.6M (+$34.3M q/q) on merger costs, amortization of core deposit intangibles, and higher salaries.
• Elevated charge-offs and delinquencies ticked up: annualized net charge-offs 0.22% (vs 0.17% in Q1), 30-89 day delinquencies 0.13% (vs 0.04% at YE 2024).

Transcript

Speaker 4

Good morning. My name is Audra, and I will be your conference operator today. At this time, I would like to welcome everyone to the ConnectOne Bancorp, Inc. Second Quarter 2025 Earnings Call. Today's conference is being recorded. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press the star key followed by the number one on your telephone keypad. If you would like to withdraw your question, press star one again. At this time, I would like to turn the conference over to Siya Vansia, Chief Brand and Innovation Officer. Please go ahead.

Speaker 5

Good morning and welcome to today's conference call to review ConnectOne Bancorp, Inc.'s results for the second quarter of 2025 and to update you on recent developments. On today's conference call will be Frank Sorrentino, Chairman and Chief Executive Officer, and Bill Burns, Senior Executive Vice President and Chief Financial Officer. I'd also like to caution you that we may make forward-looking statements during today's conference call that are subject to risk and uncertainty. Factors that may cause actual results to differ materially from expectations are detailed in our SEC filing. The forward-looking statements included in this conference call are only made as of the date of this call, and the company is not obligated to publicly update or revise them.

In addition, certain terms used in this call are non-GAAP financial measures, reconciliations of which are provided in the company's earnings release and accompanying tables or schedules, which have been filed today on Form 8-K with the SEC and may also be accessed through the company's website. I will now turn the call over to Frank Sorrentino. Frank, please go ahead.

Speaker 1

Thanks, Siya, and thank you all for joining us this morning to discuss ConnectOne Bancorp's second quarter, which reflects continued momentum in executing our strategy alongside the successful integration of the largest merger in our company's history. On June 1, ConnectOne Bank officially launched as a unified entity, completing the legal close of our merger, First of Long Island Bank. This milestone marks the beginning of an exciting new chapter for us, one that significantly enhances our scale and positions us to accelerate growth across all our markets, especially on Long Island. In line with ConnectOne Bancorp's unique approach to M&A, we deployed a deliberate and focused effort to maximize synergies, both in preparation for and immediately following the close of the combination. The results are already clear, compelling, and a direct reflection on our ability to execute.

We had overwhelmingly strong client retention, demonstrating the success of our integration efforts and the continued loyalty of our combined client base. Steady momentum in new client onboarding, as well as meaningful traction on new business opportunities. We had strong core deposit growth, including gains in demand deposit account balances for both existing and newly acquired relationships. We're also seeing strong loan demand as we combine ConnectOne Bancorp's deep expertise with significant growth opportunities across our new markets. We entered the back half of 2025 with a solid and diverse pipeline. This includes C&I, construction, SBA, and residential lending verticals. Prior to Bill providing additional details about the merger and its positive impact on our financials and performance metrics, I'd like to emphasize a few things.

Our assets now stand at nearly $14 billion, $11.2 billion in loans, and $11.3 billion in deposits, while our market capitalization today exceeds $1.2 billion. This quarter, we organically grew client deposits by a record amount, improving our loan-to-deposit ratio to 99% at the end of the second quarter, down from 106% as of March 31. Non-interest-bearing demand composition now exceeds 21% of total deposits, up from 18% as of year-end, reflecting both the merger and our client-focused relationship-based approach. Additionally, while this transaction propelled us to above the $10 billion asset threshold, ConnectOne Bancorp was already well prepared to cross this hurdle. We proactively managed the associated regulatory requirements and, as a result, anticipate only modest expense growth while remaining well positioned to continue our growth trajectory. Next, I'm also extremely pleased to welcome our newest members to our talented team.

Deep expertise in community banking aligns with our client-first culture and strategy. I'm equally proud of the commitment and dedication shown by our team immediately coming together as one organization. The energy in our combined team is palpable, and our bench strength and momentum position us to execute on the opportunities in our market. We had a flawless day-one brand transition, followed by the successful completion of a full systems conversion just two weeks later. Leading up to and throughout the transition, we placed a strong emphasis on delivering a seamless client experience. We proactively tripled our call center capacity to ensure responsiveness and continuity to address client needs in real time. Our clients were provided with broad access to the team, and I personally met with many, reinforcing our commitment to relationship banking that defines ConnectOne.

As a result, we not only managed the conversion in under 30 days, we did so with excellent client and deposit retention, while also growing balances and setting the stage for enhancing those relationships. Today, we're operating as one unified company, a single culture, consistent brand presence, and a shared vision. We're one team, fully aligned, and better positioned than ever to drive organic growth and create long-term shareholder value. With that, I'll turn it over to Bill.

Speaker 0

All right. Thank you, Frank. Good morning to everyone on the call. I want to start by reiterating that we are truly thrilled with the First of Long Island Bank merger. It's strategic in that it expands our geographic footprint and client base. It's also financially disciplined and compelling. It strengthens our balance sheet, enhances our key financial metrics, and ultimately, boosts our franchise value. Now, with any merger, particularly in the early stages of a transaction that closed mid-quarter, it can be challenging to digest what's going on behind the numbers. Therefore, I want to delve into some key areas to provide greater clarity. First and foremost, I want to highlight the exceptionally strong deposit funding trend that ConnectOne is generating right out of the gate. On a combined company basis, non-interest-bearing demand deposits increased by more than $100 million since March 31, approximately 15% annualized.

Over the same time frame, total deposits are up annualized 8%, which reflects solid performance. It's even more encouraging that when you factor in a $200 million decline in broker deposits, our true core balances have increased by more than $500 million, 17% annualized. With that robust deposit growth, we've been able to reduce wholesale Federal Home Loan Bank borrowings by about $200 million. Another point we want to highlight is the loan-to-deposit ratio improvement. Pre-merger, our first quarter loan-to-deposit ratio was 106, declining to 101 on a pro forma combined basis to March 31. Fast forward to today, showing deposit growth, the ratio has improved even further to a couple of percentage points below 100. Going forward, we expect to operate at about that 100% threshold. The deposit growth is a testament to the success across the entire organization, particularly healthy contribution from the Long Island market.

Many banks' mergers often face challenges with deposit attrition. However, our unwavering focus on client retention has led to accelerated growth. Let me now turn to our purchase accounting entries. We're going to aim for full transparency regarding the merger's purchase accounting adjustments, both now and in the future, to ensure our core underlying trends remain clear. The merger has a total loan mark of $250 million that's comprised of a $207 million fair value accretable mark and a $43 million non-accretable mark. The spare value mark of $205 million reflects a 6.6% discount to First of Long Island Bank's $3 billion loan portfolio. A good portion of that is attributable to the $1.1 billion in residential lending we're taking on. They have a relatively longer duration.

The $43 million non-accretable mark on $270 million of PCD loans largely reflects a portion of First of Long Island Bank's New York City regulated portfolio. When you combine that non-accretable mark with the accretable mark on the PCD loans, those loans are now being carried on our balance sheet at about $0.70 of a dollar. I want to remind you that First of Long Island Bank had a longstanding track record of being credit quality. Nearly all of the REM-regulated loans are performing. Nevertheless, under GAAP, we conservatively and appropriately allocated a healthy reserve due to the higher cap rates currently being applied to the subsegment. Now, earnings accretion will be considerable. We are projecting them to be approximately $9.8 million per quarter for 2025, declining to $9.2 million per quarter in 2026, and $7.9 million per quarter in 2027.

I'll address the impact of the accretion on our margin this year. Now, the provision and allowance, I'm going to talk about that a little bit. The total provision for credit losses for the second quarter was $35.7 million, including a day-one provision for First of Long Island Bank, $27.4 million, and an operating provision of $8.3 million. That $8.3 million is higher than usual for ConnectOne Bancorp, Inc. It's largely due to upward adjustments in our quantitative loss factors resulting from the merger, particularly attributable to the longer duration loan portfolio acquired. In my view, the impact you see from modeling is more or less a one-time adjustment. As such, all things equal, we expect lower levels of quarterly provisioning for the remainder of 2025. As many of you are aware, there is a pending rule change that would eliminate the day-one provisioning.

We will be able to reverse that charge in the future should it become effective. That would flow through earnings and add about 15 basis points to the PCD ratio. Let me review the merger charges and cost saves so far. So far, we've recognized $40 million in aggregate merger charges, and my expectation is we'll record up to an additional $10 million over the next quarter or two. Target was approximately $52 million, so I expect to remain below that after the full recommendation. In terms of cost saves, we are on track. The first thing I want to explain is that the second quarter was a mixed bag, just one month of a combined expense phase and typical merger charges. Calibrating for those items, our expense phase is what I've expected. I'm going forward as a 100% combined company.

2025 quarterly expenses are projected in the $55 million range, while in 2026, the quarterly run rate is likely to be slightly higher, $56 to $57 million. These projections are consistent. The achievement is our 35% previously found savings target. Just the other income line for a moment. Pre-merger ConnectOne standalone was running at $4 to $5 million. On a merged basis, that's going to go up to $6.7 million per quarter for the next few quarters, reflecting the continued build of our SBA business against the Long Island market, while we also expect both Long Island to be an increasing source of gains on sale. Let me talk a little bit about the net interest margin. You know, as always, there are many moving parts, but overall, we expect continued expansion.

Those moving parts include the merger and purchase accounting, organic widening as our deposit mix and loan pricing continue, sub-debt issuance we just did, redemptions coming up, and Fed rate cuts. A lot of moving parts there. Our computations call for an approximate increase to our margin of 10 basis points for each of the third and fourth quarters versus the 3.06% reported quarter two. That results in an interest margin of about 3.25% for the further expansion expected through 2026. That estimate assumes just one rate cut in 2025. In terms of projected return on assets and return on tangible common equity, I'm still comfortable with the previously announced 1.2% ROA, 15% return on tangible common equity as we enter 2026, but we will refresh that analysis once we have a full quarter behind us. I am hopeful for an even better outlook. Credit quality.

The metrics saw a significant improvement due to the merger and the workout and sale of certain impaired loans. Our non-performing asset ratio improved dramatically to just 0.28% from 0.51% a year ago. The allowance for credit losses as a percentage of loans jumped to 1.4% from just 1%, although this significant increase reflects the non-accretable mark. Charge-offs remained in a reasonable range of 22 basis points per quarter. There's no significant increase expected. CRE concentration ratio, as expected, it ticked up slightly to 438%. With the merger, reduced CRE composition in the loan portfolio and high earnings projections, we anticipate a sub-400 level by the end of 2020. I know you'll have questions about loan growth. Frank spoke to it a little bit. Theoretically speaking, the loan portfolio has recently remained relatively flat, largely due to elevated payoffs. Having said that, we continue to see solid demand.

The pipeline continues to grow. Along those lines, our capital remains strong to support growth. The Bancorp tangible common equity ratio stands above 8% at 8.1%. Will trend upwards with strong levels of retained earnings, while the bank's E ratio today remains above 12%, down just a little from before the acquisition. That reflects First of Long Island Bank's lower risk-rated asset company. With that, I'll turn it back over to Frank, and we'll take some of your questions.

Speaker 1

Thank you, Bill. As you just heard, proud that we've been able to successfully close and immediately integrate this merger while also delivering on our strategic objectives as planned. We acquired a culture complementary turnkey organization in an adjacent market, enviable client base, and proven track record. Our markets are ripe with opportunities for a truly client-focused bank. Our expanded footprint and team, coupled with the momentum we built, lay the foundation for a strong second half of the year. As we move through the second half of the year, we look forward to driving growth and creating long-term value for our clients, team members, and our shareholders. Let me close by saying that our company was undervalued before. Today, I truly believe our valuation is even more compelling. ConnectOne, one of the best investments ever. As always, we appreciate your interest in ConnectOne Bancorp.

Thanks again for joining us today. With that, I'd like to turn it over for some questions. Operator?

Speaker 4

Thank you. We will now begin the question and answer session. If you have dialed in and would like to ask a question, please press star one on your telephone keypad to raise your hand and join the queue. If you would like to withdraw your question, simply press star one again. We'll go first to Feddie Strickland at HUDD.

Speaker 2

Hey, good morning, Frank and Bill.

Speaker 1

Hi, Fetty.

Speaker 2

It's great to see the criticized and classifieds as well as the NPAs down on a quarter. Are there any other opportunities in the back half of the year to maybe reduce those even a little further? They're already pretty low, but just want to know if there's any big bogeys there.

Speaker 1

is asking about our projection with classified and criticized. I don't see any major change from where we are today. There's some stresses out there in the marketplace. As classified and criticized, that wouldn't be unexpected. With the write-downs and loans, there's opportunities for us to potentially unload some loans there. We'll watch that number, but I wouldn't expect any change.

Speaker 2

Got it. Just switching gears to capital, with the deal behind you now and the likelihood of some pretty good capital generation in the next couple of quarters, how do you think through the dynamic between capital deployment and managing CRE concentration?

Speaker 1

The numbers pan out very nicely to see CRE concentration. That's based on continued origination of risk type. That's part of it. Because of the accretion of the VL, we're really at a relatively low dividend rate, really adding capital quickly. I think I answered your question. We're going to see that go down on its own. Are you asking about stock repurchases and growth?

Speaker 2

Yeah, I'm just curious if there's like a target level of common equity tier one or any other metric where you'd be a little more likely to engage in share repurchases.

Speaker 1

You know, there's always a possibility. I mean, we came out of the gate when we talked about the deal that we'd hold off on share repurchases in the beginning. In my view, the capital ratios are looking a little bit stronger than I originally anticipated. I'll just leave that open for now, and we continually look at that in terms of share repurchases. It obviously depends on growth in the loan portfolio.

Speaker 2

All right. Great. Thanks for taking my questions.

Speaker 1

Thanks, Fetty.

Speaker 4

We'll move next to Daniel Tamayo at Raymond James.

Speaker 3

Hey, good morning, guys. This is Tim Switzer filling in for Daniel Tamayo. Thanks for taking my questions.

Speaker 0

Absolutely. Hi, morning.

Speaker 3

Hey, just shifting to the margin here, saw a really nice pickup in the securities portfolio this quarter. Curious, what were the drivers there? Were there any actions taken on the legacy First of Long Island Bank portfolio that you did?

Speaker 0

The securities portfolio increased because of the acquisition. You see, as of the balances, on an average basis, it's less because it's only one month. We did do some restructurings. We think we improved our interest sensitivity and earnings from those restructurings. You'll see the benefits of those going forward.

Speaker 3

Understood. Kind of, you know, following up on that, five basis point positive impacts from the 25 basis point rate cut previously. Should we kind of be thinking about that somewhat differently now, kind of post-merger here?

Speaker 0

No, we're still sticking with that, that it's approximately five basis points for each cut. In the estimates I gave you, we estimated one cut. It could be up or down depending on how many cuts we see through 2026. As we build a bigger non-interest-bearing deposit base, that would reduce the benefit of rate cuts, but it would improve the overall interest rate profile of the company.

Speaker 3

Okay. Understood. Thank you. Great color there. Finally, just looking at reserve levels here going forward, sales standing at $140 here, obviously a little bit elevated relative to historical levels. How should we be thinking about those levels kind of trending from here?

Speaker 0

I did try to mention that we were up slightly, excluding the non-accretable reserve. That was the reason for the jump. You know, to the extent, I don't want to comment on how much of that reserve we'll use, but I think we set up a pretty conservative one. To the extent we were conservative and we perform well, we'll have the ability to raise our reserves more going forward, you know, our core reserves.

Speaker 3

Great. Awesome. Thanks, guys. Appreciate you taking my questions.

Speaker 0

Thanks. You're welcome. Yep.

Speaker 4

As a reminder, if you would like to ask a question, please press star one. We'll go next to Tyler Cacciatore at Stephens Inc.

Speaker 1

Hey, good morning. This is Tyler on from Matthew Breese.

Speaker 0

Yes. Okay.

Speaker 1

Sorry if I missed it. I think you said the reserve was a bit higher due to increased cap rates on regulated housing. Do you know the cap rates that were used for that?

Speaker 0

This is in our purchase accounting, okay? When you look at purchase accounting, you have to look as a buyer of, as we do, that's what purchase accounting means. We're buying those loans. You use cap rates that a buyer would use. They probably ranged anywhere from 6.5% to 8.5% for the purchase accounting adjustment. If you get the loan appraised, you might see lower cap rates, but we use higher cap rates as a potential buyer of the loans.

Speaker 1

Okay. Great. That helps. Moving on to deposits, it was nice to see demand deposit accounts above 20% with the deal. How do you feel about that number going forward, and is growing that realistic given the current environment? If you could just talk a little bit about overall composition and growth heading forward.

Speaker 0

Yeah. I think there's a lot of opportunity to continue the trend of growing DDA higher relative to the entire portfolio. Part of that is the mix of the loan portfolio as we continue to execute on C&I and other opportunities in the marketplace that come naturally with deposits. Having what is a pretty substantial now presence on Long Island that had a higher DDA balance to begin with, we think there's some real great opportunity there to enhance a lot of the relationships that were formed there over the years. I would say really look forward to continuing to build the book in a way that helps to keep the loan-to-deposit ratio low and the DDA balances growing and a very well-diversified loan portfolio.

Speaker 1

We're certainly off to a really great start. I'm pretty optimistic.

Speaker 0

Okay. Great. Thank you. If I could just squeeze one more in, I know you talked a little bit about the loan pipeline heading forward. What are the yields you're seeing on that right now? If you could give us some sense for near-term growth projections, I think on last quarter's call, you spoke about 5% for the year. What do you see heading forward?

Speaker 1

The loan rate on our pipeline is 6.77%. That's a weighted average rate. In terms of the growth rate, I want to tell you that we are originating a lot of loans, and there's still a lot of demand out there. The reason for the lower than anticipated growth has been payoffs. It's hard to say going forward, but I'd say we'd be in this single digit going forward for the next six months. It could be in the low single digits, could be mid-single digits. Frank, do you agree with me?

Speaker 0

Yeah. Again, I like to characterize it as strong loan demand. Whether how much that translates into actual balance sheet growth is still a little bit subject to some of the payoffs. By the way, a number of the payoffs we're seeing, you know, we're happy to see. Overall, I think it gives us a better balance sheet going forward. I have to tell you, we seem to be very happy with both what's in the pipeline, what's coming off, and what the balance sheet should look like at year-end, both from a composition standpoint, an earnings yield, depository relationships, all the things that we've been working towards.

Whether we grow at 2%, 5%, 6%, I don't want to say it doesn't matter, but to the extent that we can get the balance sheet that we want and we can continue to focus on treating our clients in the way that they want to be treating and being the bank that they choose as their number one institution, that's where we see success coming from. That will translate into a profitable model.

Speaker 1

Great. Thank you. That'll be it for me.

Speaker 4

That concludes our Q&A session. I will now turn the conference back over to management for closing remarks.

Speaker 1

Thank you everyone again for your time today. We look forward to speaking with you again during the third quarter earnings call. With that, everyone enjoy your summer.

Speaker 4

This concludes today's conference call. Thank you for your participation. You may now disconnect.