Alerus Financial Corporation

Good morning, and welcome to the Aliris Financial Corporation Earnings Conference Call. All participants are in this and only mode. Today's call will reference slides that can be found on Aliris Investor Relations website. You can also view the presentation slides directly within the webcast platform. After today's presentation, there'll be an opportunity to ask questions for analysts and institutional investors. To ask a question during the session, you'll need to press star 11 on your telephone. You will then hear an automated message advising your hand is raised. To answer your question, please press star 11 again. Please note this event is being recorded. This call may contain forward-looking statements and the company's actual results may differ materially from those indicated in any forward-looking statement. Important factors that could cause actual results to differ materially from those indicated in the forward-looking statement are listed in the earnings release in company's SEC filings. I would now like to turn the conference over to Alaris Financial Corporation's President and CEO. Katie Laurison, please go ahead.

Thank you, and good morning, everyone. Appreciate you joining us today. With me today are Alaris CFO Al Villalon, our Chief Operating Officer Karin Taylor, our Chief Banking and Revenue Officer Jim Collins, and Alaris' Chief Retirement Services Officer Forrest Wilson. We delivered a strong first quarter to begin 2026. and more importantly, one that demonstrates the progress we've made repositioning Alaris for higher quality, more durable performance. For the quarter, we reported net income of $23 million, or $0.89 per diluted share. Return on average assets was 1.79%, and return on average tangible common equity was approximately 22%. These results were driven by margin expansion, resilient fee income, disciplined expense management, and continued improvement in asset quality. We view this quarter as a clear validation that the strategic actions we've taken are translating into tangible financial outcomes. Our results reflect three structural strengths shaping the business. First, our balance sheet is fundamentally better positioned. Margin expansion in the quarter reflects disciplined funding management, the benefits of balance sheet actions taken last year, and a funding mix that continues to differentiate our franchise. Growth in highly valuable HSA balances sourced through our benefits services platform highlights the uniqueness of our funding model with nearly a quarter of the deposits sourced from our integrated and synergistic business lines. Second, diversification continues to matter. More than 40% of our revenue are fee-based, capital-light, and recurring. Our retirement and benefits services and wealth advisory fee streams provide stability across interest rate and market cycles. Even as asset levels and market conditions fluctuate, underlying engagement, client activity, and long-term profitability across these businesses remain solid. Third, we continued our success in recruiting high-quality talent, adding team members in key markets in Wisconsin and Arizona, in addition to progressing towards our goal of doubling the number of wealth advisors across the franchise. Impressively, we've maintained discipline on expenses while continuing to make these selective investments in technology and growth initiatives. Our focus remains on scalability, ensuring that as revenue grows, returns improve in a sustainable way. During the quarter, we remain focused on relationship-driven growth. Commercial and private banking continues to be an area of focus, with year-over-year C&I growth exceeding 10%, supported by healthy pipelines and strong client engagement. At the same time, we've remained intentional in reducing exposure to lower return and higher volatility segments of the balance sheet. The mixed shift is improving risk adjustment returns and strengthening the overall profile of the loan portfolio. On the funding side, deposit trends reflect the value of our diversified platform. Growth in core deposits, including commercial and private banking relationships, in addition to our synergistic deposits, reinforces the strategic advantage of our integrated business model. As a result, the loan deposit ratio improved to under 93%. Asset quality improved meaningfully during the quarter. Non-performing assets declined and criticized loan balances continued to trend lower, and we made significant progress resolving previously identified credit issues. During the quarter, we charged down a non-accrual and well-reserved D&I credit related to a longstanding client relationship negatively impacted by changes in government funding. This was a single event and not reflective of broader portfolio trends. We also made substantial progress in moving closer to resolution on our largest remaining non-accrual relationships. which represents approximately 65% of total non-accrual loans. As a result of portfolio improvement and credit resolution activity, we recorded a reserve release of $4.9 million during the quarter while maintaining an allowance for credit losses of 1.25% of total loans. Taken together, these actions underscore the strength of our credit discipline and our commitment to proactive risk management. Our capital position remains strong. Tangible book value per share increased to $18.15, and tangible common equity to tangible assets improved to nearly 9%. Capital ratios remain comfortably below regulatory requirements. During the quarter, we also repurchased $6 million of common stock while continuing to return capital through dividends. Our approach to capital allocation remains disciplined and balanced, supporting growth while returning excess capital to shareholders. Most importantly, the company's trajectory remains highly positive. The underlying fundamentals of the business Our talented team, balance sheet positioning, diversified revenue model, credit discipline, and operating focus are stronger than any other time in our nearly 150 years as an institution. We remain focused on disciplined growth, continued execution, and delivering sustainable long-term value for our shareholders. And with that, I will turn the call over to Al to walk through the financial results in more detail.

Thanks, Katie. Let's start on page 9 of our investor deck, which is posted on the investor relations section of our website. In the first quarter, we delivered a strong start to 2026 and demonstrated the earnings power of the franchise following the balance sheet reposition completed late last year. We generated adjusted diluted EPS of 89 cents, inclusive of $6 million of share repurchases during the quarter. Our results reflect continued coordinate interest margin improvement, disciplined expense management, and the benefit of our diversified business model, with non-interest income representing just over 40% of total revenue. Profitability remained strong, with an adjusted return on average tangible common equity of 21.96%, and an adjusted return on average assets of 1.79%, improving 17 basis points from the prior quarter. Tangible book value per share increased 3.4% in the quarter to $18.15, and our tangible common equity ratio improved to 8.85%, underscoring continued capital generation. Turning to the balance sheet, we remain well-positioned to support organic growth. Deposits increased 3.7% on a period-end basis, and our loan-to-deposit ratio improved to 92.8%. In addition, we continue to maintain robust liquidity, approximately $2.7 billion, providing flexibility to fund loan growth, manage through market volatility, and continue returning capital through dividends and share purchases. Let's turn to page 16 to talk about our earning assets. At quarter end, loans were relatively stable versus the prior quarter. We continue to proactively reallocate capital to full relationships primarily in C&I and private banking. Excluding this continued rationalization, end-of-period loans would have grown modestly. Overall, our loan mix remains balanced at approximately 50% fixed and 50% floating. On investments, we continue to benefit from the strategic portfolio reposition executed in the fourth quarter. During 4Q, we sold $360 million of available-for-sale securities representing over two-thirds of total AFS securities at year-end 2025. This restructuring improved the overall average investment portfolio yield by 139 basis points from 4Q25 to 3.84% in the first quarter of 26, and has been a meaningful contributor to margin expansion. Currently, our balance sheet remains positioned slightly liability sensitive. On a rate cut, we will see slight margin improvement and vice versa on a hike. Turning to deposits on page 17, our funding profile continues to strengthen and remains a key contributor to margin expansion and balance sheet flexibility. On a period-end basis, total deposits increased 3.7% from the prior quarter, reflecting growth across both public funds and core client deposits. Importantly, we continue to see favorable mix improvement and operate during the quarter with only $8 million of broker deposits. Non-interest-bearing deposits increased 6.2% late quarter and now represents approximately 19.7% of total deposits. This shift meaningfully supports our cost of funds and improves the durability of our funding base. The quarter-over-quarter increase in deposits was driven by seasonal public fund inflows as well as steady growth from commercial and private banking clients. We are particularly pleased by the continued stability of our core deposit franchise, which reflects poor operating and treasury management relationships rather than rate-sensitive behavior. As a result of deposit growth and selective loan origination, our loan and deposit ratio improved to 92.8%, providing additional on-balance sheet liquidity and positioning us well to continue to support organic loan growth going forward without relying on higher-cost wholesale funding. Overall, our deposit franchise remains a competitive advantage, supporting loan growth and providing flexibility as we navigate the evolving rate environment. Third on page 18, net interest income remained stable at $44.9 million. Reported net interest margin expanded eight basis points to 3.77%, a new post-IPO high. Purchase accounting accretion contributed approximately 25 basis points in the quarter. Excluding accretion, core margin was 3.52%, representing a 35 basis point improvement from the core margin in the fourth quarter. Drivers of the quarter margin improvement included a 21 basis point decline in the total cost of funds to 1.97% and a higher portfolio yield of 3.84% following the fourth quarter balance sheet repositioning. In addition, strong new business margins across both loans and deposits supported continued margin momentum. New loans were originated at average rates in the low to mid 6% range, while new deposits were in the low to mid 2% range. Turning to page 19, adjusted fee income, excluding the balance sheet for positioning and other one-time items, declined 3.2% from the prior quarter, primarily due to lower swap fee revenue. Importantly, fee income continues to represent over 40% of total revenue, demonstrating the value of our diversified model in a dynamic rate environment. Let's turn to page 20 for additional detail on fee income. Turning to banking services fee income, adjusted banking fees declined modestly from the prior quarter, primarily driven by lower swap revenues. We do not include swap revenues and guidance due to inherent variability and client-driven timing. Importantly, our core transaction-based fees remain stable, supported by continued activity across our commercial and consumer client base. Mortgage fee income increased over 130% from the prior year, driven by increased originations, improved gain on sale margins, and a higher valuation of mortgage servicing rights. While originations remain seasonally lower, economics per loan improved, demonstrating our ability to generate solid fee contribution even in a muted volume environment. On page 21, I'll provide highlights for retirement and benefit services. Total revenue increased to $17.4 million, up 0.8% linked quarter. Assets under administration and management declined 5.9%. It is important to note this change had and is expected to have minimal impact on revenues, as the revenues were replaced with new partnership onboarded during the quarter. Synergistic deposits within the retirement segment increased 2.3% in the quarter. HSA deposits grew 7.1% to approximately $218 million and continue to be a particularly attractive funding source, carrying an average cost of roughly 10 basis points. During page 22 in Wealth Advisory Services, revenue in the quarter was $7.2 million. On a lean quarter basis, revenue declined a modest 2.7%, primarily driven by market-related pressure on asset values as client retention remained strong. Assets under administration and management decreased 1.2% from the prior quarter, reflecting broader market performance during the period. From a fee mix standpoint, the decline was evenly split between asset-based and transaction-based revenue. consistent with lower market levels and typical first quarter seasonality. Turn to page 23. Our expense discipline continued to translate into positive operating leverage during the quarter. Reported non-interest expense declined 2.9% on a linked quarter basis, reflecting lower incentive compensation as both mortgage activity and banking production were seasonally lower. Importantly, this decline was achieved while we continued to invest in the franchise. The increase in professional fees during the quarter was driven by the reclassification of certain vendor services previously recorded within business services and technology, rather than incremental new spend. Overall, expense trends remained well controlled, and we continue to demonstrate the scalability of our operating model as revenue growth outpaced expense growth in the first quarter. This discipline supports both near-term profitability and our ability to invest selectively in growth initiatives without compromising returns. Turning to page 24, Asset quality improved meaningfully. While net charge-offs were 71 basis points, the increase was driven primarily by a single $6.4 million charge-off on one previously identified C&I relationship that had previously been placed on non-accrual. This charge-down relationship still has remaining reserves of 78%. Importantly, non-performing assets declined $15.4 million link order, and criticized loans were down 43% year over year. we recorded a $4.9 million reserve release, primarily driven by lower loan balances and an improved mix. Despite the continued positive trends, we maintained reserve level above the industry at 1.25%. On page 25, capital and liquidity remained strong. Tangible common equity to tangible assets improved to 8.85%, and tangible book value per share increased to $18.15. We continue to return capital to shareholders through both our quarterly dividend and $6 million of share repurchases at an average price of $23.90, while maintaining substantial liquidity to support organic growth. Turn to page 26. Our 2026 guidance has improved and reflects continued disciplined growth and positive operating leverage. We expect the following. Loans to grow at a mid-single-digit rate for the full year, despite more than $400 million of contractual maturities. Deposits to grow in the low single digits. We have ample liquidity to support loan growth in excess of deposit growth. A net interest margin of approximately 3.55% to 3.65% for 2026. In the second quarter, we expect about 20 basis points of contractual purchase accounting accretion. Also, for additional context, the exit rate of our net interest margin was approximately 3.65% for the month of March. Adjusted non-interest income to grow in the mid-single digits, driven by continued growth in our wealth and retirement businesses. Consistent with prior guidance, swapped income is not included given variability. Total net revenue growth in the mid-single digits with non-interest expense growth in the low single digits will continue to support positive operating leverage. We do expect second quarter non-interest expenses to be slightly higher due to a seasonal uptick in mortgage and banking production, along with improved equity markets on our wealth division, which will push incentives higher. Full-year return on assets will exceed 1.25%. Finally, for each additional 25 basis point cut in rates, we would expect net interest margins to improve roughly 3 to 5 basis points. In summary, our first quarter performance demonstrates that the earnings power of the franchise is taking flight, and we believe Alaris is well positioned for 2026 and beyond to reach new heights. With that, I'll now open it up for Q&A.