Evans Bancorp - Q1 2024

Executive Summary

• Q1 2024 EPS was $0.42 and net income was $2.3M; net interest margin expanded to 2.79% (+4 bps QoQ), while efficiency ratio rose to 79.9% reflecting normalized non-interest income and seasonal OpEx.
• Deposits increased $173M (10%) QoQ to $1.89B, aided by municipal inflows and $55M brokered CDs; loans were flat QoQ but up $63M YoY to $1.72B.
• Management guided Q2 2024 NIM to 2.65% due to temporary leverage from wholesale funding; raised 2024 loan growth expectation to ~5% and expects 2024 bank-only expenses down 1–2% YoY.
• Capital remains solid (Tier 1 leverage 10.52%); dividend of $0.66 was declared Feb 20 and paid April 9; small buyback (~$0.5M, ~15k shares) executed in Q1.
• Near-term stock narrative: strong deposit growth and pipeline vs. guided NIM downtick; watch CD repricing (20% remaining) and deposit betas moderation as potential catalysts for margin stabilization in H2’24.

What Went Well and What Went Wrong

What Went Well

• Robust funding and liquidity: deposits up $173M QoQ (+10%) with stable market rates; added $55M brokered CDs and extended ~$40M FHLB borrowings to manage IRR.
• Pipeline strengthening and raised loan growth target: commercial loan pipeline at ~$95M; 2024 loan growth now ~5% vs. prior ~4%.
• NIM resilience: NIM 2.79% (+4 bps QoQ) as prudent pricing and Q4 balance sheet restructure helped stabilize margin; management: “NIM demonstrated resilience, expanding slightly”.

Management quotes:

• “Success in deposit gathering during the quarter lays a strong foundation for future asset growth… significant loan pipeline approximating $95 million”.
• “We strategically strengthened our balance sheet… added $55 million of brokered deposits… lengthened maturities of approximately $40 million of overnight borrowings”.

What Went Wrong

• Earnings pressure vs. prior year: net interest income down $3.4M YoY due to higher funding costs; non-interest income down $1.8M YoY post insurance sale.
• Efficiency deteriorated QoQ on normalized non-interest income and seasonal cost resets (FICA/unemployment/HSA, accelerated equity comp): GAAP efficiency ratio 79.92% (vs. 50.16% in Q4, which had one-time gains).
• Asset quality modestly softer sequentially: nonperforming loans rose to $27.98M (1.62% of loans) vs. $27.33M (1.59%) in Q4; credit costs ticked up (provision $0.27M).

Transcript

Operator (participant)

Greetings and welcome to the Evans Bancorp 1Q fiscal year 2024 financial results. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce Deborah Pawlowski, investor relations for Evans Bancorp. Thank you. You may begin.

Deborah Pawlowski (Head of Investor Relations)

Thank you, Doug, and good afternoon, everyone. We certainly appreciate your taking the time today to join us, as well as your interest in Evans Bancorp. Here with me, I have David Nasca, our President and CEO, and John Connerton, our Chief Financial Officer. David and John are going to review the results of the 2024 1Q and provide an update on the company's strategic progress and outlook. After that, we will open the call for questions. You should have a copy of the financial results that were released today after markets close. If not, you can access them on our website at www.evansbank.com. As you are aware, we may make some forward-looking statements during the formal discussion, as well as during the Q&A.

These statements apply to future events that are subject to risks and uncertainties, as well as other factors that could cause actual results to differ materially from what is stated on today's call. These risks and uncertainties and other factors are provided in the earnings release, as well as with other documents filed by the company with Securities and Exchange Commission. Please find those documents on our website or at sec.gov. So with that, let me turn it over to David to begin. Dave?

David Nasca (CEO)

Thank you, Debbie. Good afternoon, everyone. We appreciate your joining us today. I'll start with a review of the highlights from the recent quarter, and we'll then hand it off to John to discuss our results in detail. 1Q results reflect solid performance across key business segments. Against a continued challenging environment, our net interest margin demonstrated resilience and saw some sequential expansion. While the cost of funding continues to rise, we see the rate of increase decelerating, which provides a stabilizing net interest margin outlook, as John will discuss in more detail later. During the quarter, we opportunistically used market rate movements to lock in a modest amount of wholesale funding to manage against possible higher rates for a longer period, as well as pre-funding some deposit seasonality and expected loan growth.

This included $50 million in brokered certificates of deposit and the extension of maturities on $40 million of Federal Home Loan Bank overnight borrowings for three years. Our organic deposit gathering during the recent quarter sets a strong foundation for future loan expansion. While growth in loans during the 1Q was muted, we are particularly optimistic relative to our significant loan pipeline approximating $95 million. Across our market areas, our consumer, business banking, and commercial teams continue to build a diverse pipeline of high-quality loans in a difficult rate environment. We are also seeing early benefits of strategic investments in our commercial banking team and enhancements to prospecting tools. Commercial activity in Rochester has provided additional growth to our pipeline, and in February, in addition to the recently acquired regional director, we bolstered the team with a new relationship manager.

While we have been and are vigilant in managing expenses, we recognize the importance of strategic investments in both people and technology. These investments are pivotal in our efforts to effectively scale the organization, drive future efficiencies, and ultimately deliver enhanced customer-facing solutions and experience. By continuing to refine operations and invest in the right areas, we are poised to not only weather challenges but also seize opportunities for growth. As we approach our annual meeting of shareholders, I wanted to make note of some adjustments to our board, which will occur following the meeting on May 7th. As outlined in the proxy statement, we will bid farewell to two directors who will not be seeking reelection: Robert Miller Jr. and Kevin Maroney. Their departure will result in a reduction in our board size to 12 members.

Kevin Maroney, who joined us through the Fairport Savings Bank acquisition in 2020, has played a pivotal role in our expansion efforts, particularly in bolstering our presence in Rochester. We extend our gratitude to Kevin for his contributions and wise counsel throughout the integration process and for his governance after the acquisition. Robert Miller Jr. has been an integral part of our board for an impressive 23 years. His tenure as the long-serving president of the Evans Agency, the bank's insurance business, and his building of that business until his retirement in 2019 speaks volumes of his dedication and expertise. We owe Bob a debt of gratitude for his unwavering commitment to Evans.

His visionary leadership not only left a profound impact on our board but also played a crucial role in driving the growth of the insurance agency organically and through 15 acquisitions, culminating in its successful sale in the 4Q of last year. On behalf of the entire board and Evans family, we wish them both the very best in their future endeavors. As we progress through the year, our primary focus remains on customer acquisition and relationship management to foster loan and deposit growth. Concurrently, we are committed to optimizing operational efficiency and customer experience, as well as managing expenses diligently to deliver sustainable returns. Central to our strategy is our community-based, customer-centric model, which we believe is our core strength. This enables us to effectively support, serve, and expand our client base across all economic environments.

By prioritizing clients' needs and fostering strong relationships, we are confident in our ability to navigate the challenges being faced and capitalize on opportunities for growth. With that, I'll turn it over to John to run through our results in greater detail, and then we will be happy to take any questions you may have. John?

John Connerton (CFO)

Thank you, David, and good afternoon, everyone. As a reminder, the comparative periods of 2023 include business activity relating to the Evans Agency, or TEA. We completed the sale of that business to Arthur J. Gallagher and Company on November 30th, 2023. For the recent quarter, we delivered earnings of $2.3 million or $0.42 per diluted share. The linked 4Q of 2023 had net income of $10.2 million, though included a gain of $20 million from the sale of T, as well as $1.5 million of insurance revenue that was recognized prior to the sale, partially offset by the $5 million pretax loss on the sale of investment securities. When excluding T and the atypical items, our core banking business saw sequential earnings improvement.

When compared with last year's 1Q earnings of $5.8 million, the primary drivers of the year-over-year change were lower net interest income and a change in provision. Net interest income of $13.9 million was flat with the linked 4Q, though was impacted when compared with the prior year period by higher interest expense given competitive pressure on deposit pricing, which accelerated for most of 2023. This more than offset increases in interest income driven by growth in our variable rate portfolios. 1Q net interest margin came in at 2.79%, up four basis points from the linked quarter. This was slightly favorable to our expectations of a flat NIM, as we benefited from 4Q balance sheet restructure and continued prudent pricing strategy. I will talk to our NIM expectations at the end of my remarks.

The $266,000 provision for credit losses in the recent quarter was due to slower prepayment rates and higher net loan charge-offs, partially offset by improving economic factors. Total non-interest income was down $16.3 million from the sequential quarter. The reduction from the 4Q of 2023 was due to the gain on sale of the Evans Agency of $20.2 million and $1.5 million in the Evans Agency insurance revenue, offset by the $5 million investment loss, which were all recognized in the sequential quarter. The remaining increase in non-interest income from the 4Q was primarily due to an increase in the value of mortgage servicing rights. Total non-interest income was down $1.8 million when compared with the 1Q of 2023. The majority reduction was related to $2.3 million in Evans Agency insurance revenue recognized in the 1Q of 2023.

This was offset mostly by an increase in the value of mortgage servicing rights during the 1Q of 2024. The decrease in non-interest expense from the 4Q of 2023 was due to lower incentive accruals of $2.1 million and $1 million of non-interest expense related to T, primarily salaries and employee benefits, that were recognized during the 4Q of 2023 prior to the sale. In addition, $300,000 of charitable contributions and $100,000 of pension settlement expenses were included in other expenses during the sequential quarter. The recent quarter benefited from lower incentive accruals but did include about $500,000 in other costs that are seasonal for the 1Q and not expected to be repeated in subsequent quarters of 2024.

Those include the annual resets of FICO and unemployment insurance, the annual payment into our HSA accounts, and some accelerated equity compensation for those employees in retirement eligible status. The decrease in non-interest expense from the 1Q of 2023 was due to $1.8 million of non-interest expenses relating to T, of which salaries and employee benefits were $1.5 million. During the 1Q of 2023, salaries and employee benefits, excluding the $1.5 million related to T, were $7.9 million, flat with the 1Q of 2024. The remaining increase in total non-interest expense of $200,000 is due to higher technology and communication expenses recognized by the bank during the 1Q of 2024.

Adjusting for the 1Q additional costs within salaries and benefits and adding for the full impact of merit increases awarded at the end of this 1Q in 2024, the non-interest expense for the 1Q is a close approximation of the expense run rate to use going forward. Our expectation for the bank-only 2024 year expense, including T's 2023 expenses, is a decrease between 1%-2%. We continue to strategically strengthen our balance sheet during the recent quarter, adding $55 million of broker deposits at favorable rates and extending approximately $40 million of overnight borrowings in order to manage interest rate risk, as David suggested. Total deposits increased $173 million, or 10%, during the quarter and were up $41 million, or 2%, from the end of last year's 1Q. Reflected in the sequential increase were broker time deposits and seasonal inflows of municipal deposits.

From a product perspective, the only category in which we saw a decrease was commercial savings, which was down $3 million. Those deposit offloads can be considered seasonal and typical in the 1Q due to distributions and tax payments that commercial clients make at the beginning of the year. Total loans were flat with the linked quarter, as net commercial originations were $36.3 million compared with $58 million of net originations in the 4Q. We continue to be selective in underwriting decisions but are seeing opportunities in commercial real estate, including multifamily and warehouse facilities, that meet our credit parameters. C&I line balances remain muted and continue to impact growth in that portfolio. We are making some progress to offset the low line usage, as the majority of the originations in the 1Q were C&I.

Total loans were up $63 million year-over-year, which reflected commercial real estate loan growth of $76 million, partially offset commercial and industrial loans, which were down $15 million. The current pipeline is strong and stands at $95 million at quarter-end. We expect our current liquidity position to be the foundation that supports expected commercial loan growth of approximately 5% in 2024. Credit metrics remain sound, with a slight increase in non-performing loans on a sequential basis. Criticized loans were $70 million at quarter-end compared with $72 million at the end of the 4Q. This was a $23 million decrease from last year's 1Q of $93 million. We have been successful in managing our deposit pricing strategy to include balancing liquidity with profitability, and are confident in our ability to continue to navigate the evolving market dynamics.

We will continue to fight for deposits by maintaining competitive rates in our markets and, when warranted, offer preferred pricing for core clients. The balance sheet impact for adding brokered deposits to anticipated seasonal deposit fluctuation and funding expected loan growth with longer-term borrowings was a temporary increase in Fed funds sold balances. While the impact of this short-term leverage is adding to net interest income, it will decrease the NIM in the second quarter by 13 basis points. Deposit rate offerings are currently stable in our market. However, we continue to expect modest increases in costs as customers continue to move balances from transactional accounts to interest-bearing accounts, as well as the CD portfolio continuing to reprice. Given those impacts, we expect our NIM to be 2.65% in the second quarter of 2024. With that, operator, we would now like to open the line for questions.

Operator (participant)

Thank you. Ladies and gentlemen, at this time, we will be conducting a question-and-answer session. If you'd like to ask a question, you may press star 1 on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star 2 if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star key. Our first question comes from the line of Alex Twerdahl with Piper Sandler. Please proceed with your question.

Alex Twerdahl (Equity Research Analyst)

Hey, good afternoon, guys.

John Connerton (CFO)

Good afternoon, Alex.

Alex Twerdahl (Equity Research Analyst)

Hey, John. I was hoping maybe you could talk a little bit more about sort of the overall balance sheet management strategy as the year progresses. I know you're sitting on a little bit more liquidity at the end of the 1Q than we typically see on balance sheet and maybe due to the brokered and the extension of the borrowings that you alluded. But how do you see that evolving over the course of the year? And also, does the balance sheet stay kind of roughly flat from where it is now, or does it shrink a little bit as the year progresses?

John Connerton (CFO)

So yeah, I think I guess just to talk about the brokered CDs and the $40 million FHLB borrowings that are three-year, those are mostly the brokered CDs. You can think of this as this: we have fluctuation seasonally from the municipal portfolio significantly. We're up $84 million in the quarter on municipal deposits alone, and that'll run down and out and then back up a little bit in the fall and then down through the end of the excuse me, the end of the winter. So we're utilizing those brokered CDs. We took an opportunity in the quarter where there was some interest dips, and we went out and got some wholesale funding so we didn't have to kind of price our market. And we're going to utilize that to kind of help kind of mitigate some of that cyclicality in those municipal deposits.

So that by itself, again, would consider the balance sheet kind of flat through the period and through to the end of the year. The other portion, the $40 million, is an expectation of kind of pre-funding since rates, again, were dropped, and we wanted to take advantage of the drop in rates on the longer end before it's obviously increased currently to pre-fund some of our expectation, as we suggested, the 5% growth on our loans. And so again, that kind of offset would, again, mean that our balance sheet would just be a movement out of the cash into the loans. So yes, in total, for that particular purposes, those two, what I'll say, pre-funding transactions, the balance sheet should stay mainly flat.

However, we do expect that we'll still have some deposit growth excluding those two types, such that the balance sheet should trend up slightly, after all said and done, a couple percentage.

Alex Twerdahl (Equity Research Analyst)

Okay, great. That's helpful, Caller. And then when we think about the loan growth and the 5% target for the year, do you think that that will be pretty evenly spread over the remaining three quarters of the year or talk maybe about sort of what goes into that 5% overall target?

John Connerton (CFO)

Yeah, I think that's a good assumption, is that the rest of the year should be fairly evenly spread. Obviously, 4Q's a little bit more of an estimate, but our expectation is that.

Alex Twerdahl (Equity Research Analyst)

Okay. And then the final question, just wanted to talk a little bit more about how you're thinking about capital management over the next couple quarters. Obviously, you created a lot more flexibility on the capital front with the T sale in the 4Q. And I'm just curious if you have any more considerations or thoughts of things like buybacks or additional restructurings, things like that.

John Connerton (CFO)

So yeah, Alex, in the 1Q, we do have a lot of challenges to go out and get buybacks just based on our low liquidity level in the market and the restrictions that we have on going to get back our own stock, which we did do some buybacks in the 1Q. We'll continue to, excuse me, look at that and take opportunity when we can. I think first and foremost, when we look at it, our capital really there is to make sure that we're supporting our growth, especially from an asset perspective. Then secondly, to make sure that now that we're at a somewhat of a lower performance level, we want to definitely support our dividend that for years we've been consistent with. And then thirdly, yes, buybacks.

It's a little hard to get those buybacks, so I would suggest that from a priority perspective, if I were to look at it, it's kind of one, two, three in that order.

Alex Twerdahl (Equity Research Analyst)

Got them. What was the amount that you did in the 1Q, if you have that handy?

John Connerton (CFO)

I don't have it handy, Alex. It's a small amount. I think we did $500,000 worth. It's maybe like 15,000 shares or something along those lines.

Alex Twerdahl (Equity Research Analyst)

Okay. Thanks for taking my questions.

Operator (participant)

As a reminder, it is star 1 to ask a question. Our next question comes from the line of Christopher O'Connell with KBW. Please proceed with your question.

Christopher O'Connell (Equity Research Analyst)

Hey, good afternoon.

David Nasca (CEO)

Good afternoon, Chris.

Christopher O'Connell (Equity Research Analyst)

Yeah, appreciate all the guidance around the NIM impact. As far as the CDs that were brokered, that were put on in the borrowing extensions, at what point in the 1Q did those occur?

John Connerton (CFO)

It was in the latter of March, so you won't see much of an impact in the 1Q.

Christopher O'Connell (Equity Research Analyst)

Got it. That's helpful. And how are you guys thinking about the trajectory of the NIM in the back half of 2024 after the kind of reset in 2Q?

David Nasca (CEO)

Well, our hope with the NIM right now is that the impact, the decreases that we've seen have moderated a little bit, and we're starting to decelerate the betas on deposits here, which should help the NIM. We don't expect to see a lot of NIM expansion, but we certainly think the impacts should be flattened out here a little bit.

Christopher O'Connell (Equity Research Analyst)

Got it. For the CD portfolio, what's the remaining portion of it that has yet to reprice kind of up toward market rates?

John Connerton (CFO)

Probably around 20%. We had a big piece come through in this quarter, but another 20%.

Christopher O'Connell (Equity Research Analyst)

Great. Do you have either the recent loan origination yields have been coming on at or what they are in the pipeline?

John Connerton (CFO)

Yeah, our offering rates, at least the current offering rates, are somewhere between, on our term loans, 7.25%-7.5%, and then our C&I is better than prime.

Christopher O'Connell (Equity Research Analyst)

Great. And then on the fee side, there's still kind of a lingering amount there, like $150,000 in the insurance line. Is that falling out after this quarter, or is that unrelated to the business?

John Connerton (CFO)

So yeah, that's a good question, Chris. For comparative purposes, last year it was in there. Part of our wealth program, which is around $700,000 a year, has always been in that line. It's been very consistent. So for comparative purposes, we're leaving it in there. We didn't want to reclass it out of there, but that is so that should be consistent from quarter to quarter.

Christopher O'Connell (Equity Research Analyst)

Okay, got it.

David Nasca (CEO)

Yeah, we did benefit plans for corporations and things like that, and we sort of dovetailed with the insurance, so it was in that bucket.

Christopher O'Connell (Equity Research Analyst)

Great. Staying in. And then on the credit side, any commentaries to what you're kind of seeing in your markets recently? I know not much movement this quarter in the NPLs and the credit size, and net charge-offs pretty good as well. But any stress or any signs of stress that you guys are seeing?

David Nasca (CEO)

We continue to not see any real cracks in the credit armor right now. We believe that companies have been impacted by the higher rates, but for all the reasons, we've been credit conservative. I won't say we're conservative, but we've watched out for making sure that we've done loans appropriately in all environments. So we are not seeing a lot of cracks, as I said. You are seeing that we're going to see rates higher for longer, we think. We think there may be a credit cycle at some point, but we're not seeing that at this point. We're working through the credits that we had that are non-performing. We continue to make some progress there, and we expect to continue moving forward on repairing those. So we're not seeing a whole lot of impending challenge right this second.

Christopher O'Connell (Equity Research Analyst)

Great. That's all I had. Thanks for taking my questions.

David Nasca (CEO)

Thanks, Chris.

Christopher O'Connell (Equity Research Analyst)

Thanks, Chris.

Operator (participant)

There are no further questions in the queue. I'd like to hand it back to you, David Nasca, for closing remarks.

David Nasca (CEO)

All right, thank you, Doug. Thank you for participating today in the teleconference. We always appreciate that you're here with us and your continued interest and support. Please feel free to reach out to us at any time. We look forward to talking with all of you again when we report our second quarter 2024 results. We hope you all have a great day. Thank you.

Operator (participant)

Ladies and gentlemen, this does conclude today's teleconference. Thank you for your participation. You may disconnect your lines at this time and have a wonderful day.

David Nasca (CEO)

All right. Thanks. I'll cut it off here.