Flushing Financial Corporation

Welcome to Flushing Financial Corporation's third quarter 2024 earnings conference call. Hosting the call today are John Buren, President and Chief Executive Officer, and Susan Cullen, Senior Executive Vice President, Chief Financial Officer and Treasurer. Today's call is being recorded. If you would like to join the Q&A, please press star then 1. If you require an operator assistance, please press star then 0. A copy of the earnings press release and slide presentation that the company will be referencing today are available on its investor relations website at flushingbank.com. Before we begin, the company would like to remind you that discussions during this call contain forward-looking statements made under the safe harbor provisions of the U.S. Private Securities Act. Litigations Reform Act of 1995. Such statements are subject to risks, uncertainties, and other factors that may cause actual results to differ materially from those contained in any such statements, including as set forth in the company's filings with the U.S. Securities and Exchange Commission, to which we refer you. During this call, references will be made to non-GAAP financial measures as supplemental measures to review and assess operating performance. These non-GAAP financial measures are not intended to be considered in isolation or as a substitute for the financial information prepared and presented in accordance with U.S. GAAP. For information about these non-GAAP measures and for reconciliation to GAAP, please refer to the earnings release and or the presentation. I would now like to introduce John Buren, President and Chief Executive Officer, who will provide an overview of the strategy and results.

Thank you, Operator. Good morning. and thank you for joining us for our third quarter 2024 earnings call. The operating environment in the third quarter was improved but remained challenging. We're encouraged by the recent 50 basis points reduction by the Fed as we hope this leads to the yield curve at least flattening, potentially regaining a positive slope. There'll be challenges and unknowns in managing the net interest margin in this environment, including the impact of deposit pricing by competitors, how lower rates will influence loan demand, and the timing and pace of Fed cuts. However, we believe the environment will improve over time and this will ultimately be positively reflected in our net interest margin. For the third quarter, the company recorded gap earnings per share of $0.30, and core earnings of $0.26, which is the best quarter in the past seven. There are several items to call out from the quarter. We had higher than normal net interest recoveries on non-accrual and delinquent loans, which added five basis points to the net interest margin, and about $0.03 per share in the quarter. Gap in core earnings per share include an additional five cents for insurance recoveries, discrete income tax items, and other events that are not expected to repeat. We outlined our four areas of focus in the past. Our first objective is to increase the NIM and reduce its volatility. Net interest income increased 6.6 percent quarter over quarter as the net interest margin increased five basis points. During the quarter, NIM compressed in July, but then expanded month over month in both August and September. We continue to focus on the NIM, and while expansion may not always be in a straight line, we believe the general direction should be positive as the yield curve flattens or becomes positively sloped. The second objective is to maintain our credit discipline. Flushing Bank has a long history of low-risk credit profile due to our conservative underwriting and strong portfolio management. Overall credit metrics remain solid with 59 basis points of non-performing assets, 100 basis points of criticizing classified loans, and 6 basis points of net charge of year-to-date. Our loan portfolio remains well collateralized as the average loan-to-value in the real estate portfolio is less than 36%, and the debt coverage ratios are 1.9 times for our multifamily and investor commercial real estate. Our exposure to Manhattan office buildings is about a half a percent of gross loans. Our third objective is to preserve our strong liquidity and capital. Our available liquidity was $3.9 billion as of September 30th, and our level of uninsured and uncollateralized deposits remains low at 15% of total deposits. Our capital ratios remain solid. The fourth objective is to bend the expense curve. Non-interest expense growth year to date was about 6% as we took advantage of market opportunities to invest in the business to improve profitability over the long term, including bringing on an SBA team and a staff for new growth. We still expect overall expense growth in 2024 to be in line with our historical averages mid single digits. Overall, while there's some beneficial items that are not expected to repeat in the quarter, we're encouraged by the outlook over the long term and are building a foundation to achieve our long-term goals and improve overall profitability. Slide four demonstrates Flushing's credit performance versus the industry. Our underwriting has outperformed over time, often by a wide margin. Our conservative credit culture has been proven in many rate and economic cycles and our commitment to our low-risk credit profile is unwavering. The results of our low-risk credit profile are shown by the charge-off history chart on the left. We expect our net charge-offs to remain well below industry levels. For the first nine months of 2024, we had net charge-offs of six basis points. Our level of non-current loans to total loans is also favorable compared to the industry. In a stress scenario consisting of a 200 basis point increase in rates and a 10% increase in operating expenses, our loan portfolio has a debt coverage ratio of 1.3 times. Given this, we're expecting minimal loss within this portfolio. Slide five depicts additional credit metrics that result from our conservative risk culture. Non-performing assets to assets total 59 basis points with loan to values at 55%. Our level of criticized and classified assets improved quarter over quarter, and we expect them to remain well below peer levels again this quarter. 30 to 89-day past dues are 43 basis points of loans, indicating a low level of potential future losses. Our allowance for credit losses is presented by loan segment in the bottom right chart, and the ratio to overall loans total 59 basis points. These items in the aggregate keep us very confident that our low-risk credit profile performs well over time. Slide 6 outlines credit metrics at a more granular level for key portfolios. Our multifamily portfolio comprises 39% of gross loans and has strong credit metrics such as a weighted average loan-to-value of 44% and a weighted average debt coverage ratio of 1.9%. Non-performing loans in this portfolio are only 33 basis points down from 52 basis points in the prior quarter. And criticized and classified loans are only 55 basis points of loans down from 67 basis points in the prior quarter. Average loan size is $1.2 million in this $2.6 billion portfolio. Investor commercial real estate loans excluding the Office Cree portfolio total 25% of gross loans and have similar credit metrics as our multifamily loans with zero non-performing loans and zero criticized and classified loans. Our exposure to office loans and Manhattan office buildings is small at less than 4% and about half a percent to gross loans respectively. There is one non-performing loan in the office portfolio which we expect will be resolved shortly with no loss. These metrics provide a clear representation of our conservative and strong credit culture that has and continues to perform very well over time. Slide seven provides further context on the risk in our multifamily portfolio and a comparison versus peers. As of June 30th, 2024, our criticized and classified multifamily loans were only 67 basis points, the fourth best in the peer group. At the end of the third quarter, this ratio improved to 55 basis points. Multifamily reserves to criticize and classified multifamily loans were 61%, which was the fifth best in the peer group in the second quarter, and this ratio improved to 70% in the third quarter. 30 to 89-day past dues in our multifamily loan portfolio were 52 basis points. With these credit metrics, we see limited risk and loss on the horizon. Slide 8 summarizes our overview on credit quality. We have a low-risk balance sheet and years of conservative underwriting that have served the company well with credit losses and non-performing assets favorable to the industry. Our multifamily investor commercial real estate portfolios are well underwritten and are prepared for higher rates based upon our stress tests at origination. We had one office loan move to non-accrual this quarter, but we expect this loan will be resolved shortly with no loss to principal. Non-performing assets and criticized and classified loans improve quarter over quarter, and our 30- to 89-day delinquencies remain low. We remain confident in our low-risk credit profile. I'll now turn it over to Susan to provide more detail on our financial metrics. Susan?

Thank you, John. I will begin on slide nine, which provides more detail on our deposits. Average deposits increased 9% year-over-year and 4% quarter-over-quarter. Average non-interest bearing deposits were 11% of total average deposits compared to 12.5% a year ago. Our loan-to-deposit ratio has improved to 90% from 103% a year ago. The cost of deposits increased by 17 basis points in the quarter compared to 11 basis points in the second quarter, and 17 basis points in the first quarter of 2024. We believe the cost of deposits has likely peaked in July, as we've seen the cost of deposits decrease month over month for both August and September. Slide 10 outlines the net interest income and margin trends. The GAAP and CORE net interest margin increased five and four basis points to 2.1% and 2.07% respectively. Interest recoveries on delinquent loans are larger than in previous quarters, and this added about five basis points to both GAAP and core net interest margin. On a monthly basis, the net interest margin bottomed out in July and expanded in both August and September. With the 50 basis points cut by the Fed, funding costs, floating rate assets, and swaps also moved lower. We lowered rates by 50 basis points on $1.8 billion of non-maturity deposits on October 1st. We still have the tailwind of new loan production that has higher yields than the existing portfolio and the natural repricing of the loan portfolio over the next several years. Based on our modeling, our net interest margin would be flat for a 25 base point cut in the rate and a 33% beta on interest-bearing deposits. If we are able to generate a higher interest-bearing deposit data, our net interest margin would benefit. Our net interest margin is a daily focus. Slide 11 provides more detail on our CD portfolio. Total CDs are nearly $3 billion or 38% of total deposits at the quarter's end. About $1.5 billion of retail CDs are expected to mature over the next year at a weighted average rate of 4.64%, which compares to current rates of 3.75% to 4.75%. We see a significant opportunity to reprice these CDs lower as they mature. Slide 12 provides more detail on the contractual repricing of the loan portfolio. Approximately $1.3 billion, or 19% of the gross loans, are repriced to a short-term index. Our interest rate hedge position increases this percentage to 26%. For the remainder of 2024, $226 million of loans are due to reprice, 185 basis points higher than the current coupon rate. In 2025, approximately $775 million of loans are scheduled to reprice upwards of 159 basis points. These rates are based on the underlying index value at September 30th. This loan repricing should help drive net interest margin expansion once funding costs stabilize or decline. Slide 13 outlines how we are thinking about our net interest margin. In the short term, funding costs should benefit from CD repricing and the pricing actions we took on October 1st. Our real estate loans should continue to reprice higher over time, These items will serve as potential offsets to floating rate assets and the interest rate swaps that will contractually price lower with every Fed move. Near term, the net interest margin is likely to remain stable, but longer term we should see improvement. A flattening to a steepening of the yield curve should positively benefit net interest income. While we expect the NIM to expand over time, it could be bumpy quarter to quarter. Our capital position is shown on slide 14. Book value and tangible book value per share were stable year-over-year and quarter-over-quarter. The leverage ratio is approximately 8%, while the tangible common equity ratio remains about 7%. Overall, we view our capital base as a source of strength and a vital component of our conservative balance sheet. Slide 15 provides detail on our Asian markets, which account for about a third of our branches. We have approximately $1.3 billion of deposits and $744 million of loans in these markets. These deposits are 17% of total deposits, and while we have only a 3% market share of this $40 billion market, implying there is substantial room for growth. Our approach to this market is supported by our multilingual staff, our Asian Advisory Board, and support of cultural activities through participation and corporate sponsorships. This market with its dense population and high number of small businesses continue to be an important opportunity for us and one that we believe will drive our success over time. On slide 16, you can see the community involvement is a key part of our strategy. During the third quarter, we participated in numerous local events to strengthen our ties to our customer base. In particular, we were an active participant in the Flushing Meadows Dragon Boat Festival. Our teams participated and did well in the races, and our booth in the park was a big hit, as you can see from the lines at the top left picture. Participating in these types of initiatives has served us as a great way to further integrate ourselves to our local communities while driving customer loyalty. Slide 17 provides our high-level perspective on performance in the current environment. We continue to expect stable loan balances and a continued emphasis on improving the funding mix. The net interest margin, excluding the five basis points of delinquent loan recoveries, is expected to be relatively stable in the quarter, meaning few basis points movement depending on the competitive environment and the pace of loan originations. We expect that funding costs will peak. When the curve flattens or regains a positive slope, this should benefit the net interest margin over time. Non-interest income should be aided by the closing of back-to-back swap loans in the pipeline and the benefits of a Bully 1035 exchange. After the exchange is completed, Bully income is expected to increase an incremental $4 million over the next years compared to the annualized third quarter 2024 levels, and the increase can be lumpy quarter to quarter. As John mentioned previously, we have made the strategic decision to invest in the business by adding people and branches. While year-over-year core non-user expense growth was slightly elevated this quarter, We expect core non-interest expense to increase mid-single digits in 2024. While quarterly tax rates can fluctuate, we expect the mid-20s effective tax rate for 2024. Lastly, we sold approximately 50 million investment securities after core rent. I'll now turn it back over to you, John.

Thank you, Susan. I'll conclude with our key takeaways. We're pleased with our quarterly results and the emerging trends. Our near-term priorities remain on our four areas of focus to help build a strong foundation for improved long-term profitability. The net interest margin should begin to expand as the yield curve flattens and becomes positively sloped. While we expect improvement over time, it may not always be linear. There's no change in our credit discipline or resulting low-risk credit profile. Capital and liquidity are strong, We're mindful of expenses, but we'll continue to invest in the franchise to improve the long-term profitability and value. The rate environment is still a challenge, but we're controlling what we can control and setting the foundation for a better future. Operator, I'll turn it over to you to open the lines of communications for questions.

We will now begin the question and answer session. To ask a question, you may press star then 1 in your telephone keypad. If using a speakerphone, please pick up your handset before pressing the keys. To withdraw from the question queue, please press star then 2. At this time, we'll pause momentarily to assemble our roster. Our first question will come from Steve Moss with Raymond James. You may now go ahead.

Good morning.

Good morning, Steve. Hey, Steve.

Good morning. Maybe just starting with Susan there, I think I heard you at the end of your commentary say $50 million of securities were sold at the end of the quarter. I'm not sure exactly. A little bit of a static on the line. But just curious if that was and if there's a coupon that you could give us.

They were some of the adjustable rate CLOs that were sold with the minimal gain. As the loan growth grew, we shed those assets.

Got you. And in terms of the, you know, the margin here, I hear you guys, it's been improving here since July. I just kind of curious, you know, what was the September margin? I hear you on roughly stable, but just kind of curious as to where you were in September before the 50 base point cut and deposits.

It was 220, it was 228, but some of that was associated with that, uh, with that large recovery. So bringing it down, X that recovery on that delinquent loan, the September NIM would have been 210.

Okay. And with the lower pricing on October 1st for deposits, you know, curious to see how, you know, what your sense of deposit or reaction has been. And, you know, do you think you can keep like 100% type of beta if we get a few more cuts here in the short term?

So we already repriced $1.8 billion of non-maturity deposits, 50 basis points lower on October 1st. And we also feel we've got an opportunity on the CD side as those attending to roll off benefits not quite five, but close to five. And the indications that we have so far, we've got a 4.75 out there for 91 days, and we have a 4% for one year. And what we're seeing at the end of September, there was more of a focus on people going for the one-year 4% rather than the the shorter-term 475. So we're expecting to see some pickup out of that as well.

Okay, great. And then one more for me here. Just on the charge-off for the quarter, just curious to give us color around, you know, what drove that charge-off and anything special about it.

That was a C&I loan, a business banking loan, that we had fully reserved for in prior quarters. We just reserved for it, and the information came to us that it was time to charge it off.

Okay.

But it had been fully provided for in previous periods.

Okay. Appreciate that. And maybe just one more going back to the margin here. You know, since, you know, more dovish here than it was, a quarter ago and just kind of curious if you guys could give us a sense as to where, you know, your margin could shake out if we get, you know, another 150 basis points type cut. So three, three and a quarter, three and a half type fed funds rate by the fourth quarter of 2025, you know, any sense around how you would think about it, or is it really more of a 26 event with the swaps before we see more margin expansion?

So the NIMS should benefit from a positively sloped yield curve or even a yield curve that gets a little flatter than it is today. So our interest rate modeling indicates that the steepening of the curve by 200 basis points from the September 30th levels would increase net interest income by about $4 million in the first year and about $20 million in the second year. But that's including, remember, a static balance sheet. Obviously, loan growth at higher rates would add to that margin accretion.

Okay, great. Really appreciate that color there. Thank you very much.

Thank you, Steve.

Thanks, Steve.

Our next question will come from Mark Fitzgibbon with Piper Sandler. You may now go ahead.

Hey, guys. Good morning. Hi, I wanted to follow up on Steve's question because I think it's a good one. Where do you think in that ideal environment with the yield curve being really steep, where can the margin theoretically get to?

So we would like to get back to about the 3% margin mark, but that's obviously going to take some time and a little bit of assistance from the shape of the curve.

Okay. And I guess sort of dovetailing into that, I guess I'm curious where you think the company can operate through the cycle from a return on tangible common equity basis. I know you had said this was the best quarter in the last seven, and it translated into sort of a 3% ROTCE. Where do you think is a reasonable expectation for investors to for the ROTCE over the cycle, maybe an average over the cycle for the company?

So our target is 10%. We'd like to get to that level. We think that's a possible level.

Okay. But by my quick math, your margin would need to be sort of 270 to get to a double-digit ROTCE. So that's a long way from here. That's, you know, 60 basis points up from here. And for most of the cycle, you'll be well below that. I guess I'm just wondering, is the model built in such a way that that's feasible to be able to generate double-digit ROTCEs over time?

Well, we certainly feel that we've got a lot of pickup to be coming from the change in rates that we're anticipating coming you know, going into 2025. And we did hit that level in 21 and 22 as well. Okay.

And then secondly, I wondered, Susan, if you could share with us the average rate on the 429 million of CDs that you booked in the third quarter. I know there was some data that was sort of in a range of, I think, 375 to 475 for a bunch of deposits, but specifically on the CDs. I was curious.

So they were around four and a quarter. The 375 to 475 is the current rates that we're offering.

Gotcha.

And as John said, the 475 relates to a 91-day special that's not very popular. Most of our customers are going to the one-year 4% CD.

Okay, great. And then last question, do you all have a target for CRE concentration? It just feels like everybody in the industry is trying to bring that down. Do you guys have a goal in mind, and how long do you think it will take you to get to that goal?

No, we don't. You know, we think we're pretty comfortable where we sit at this point in time.

Thank you.

Thanks, Mark.

Thanks.

Our next question will come from Christopher O'Connell with KBW. You may now go ahead.

Hey, good morning.

Good morning, Chris.

Hey, Chris.

Susan, um, maybe, uh, you could just describe it, you know, appreciate the color that you guys gave on, uh, on the office, uh, non-performer this quarter. Um, but just, you know, a little bit more details around kind of, you know, the size of the credit, um, and what happened there and what the, uh, you know, what gives you guys confidence in the resolution here?

That, that credit has been around for a while. It has a pretty low LTV. The building itself has been marketed and with very good indications on the price, which will result in a full recovery for us. He's working with well-known or the borrower's working with well-known real estate developers who have validated that price and have an interest in the resolution.

Got it. That's helpful. And then on the fee side, if I heard you right, it seems like you guys are going to get $4 million of BOLI benefit. That's kind of like $4 million coming in over the course of a single year. That's not $4 million perpetually in the run rate, correct?

It is $4 million over the next year incremental to the third quarter 2024 run rate. Okay. Yep.

Yep, no, I got it.

Thank you. As the money gets invested, it's going to come in lumpy.

Yep, thank you.

About a million dollars per quarter.

Got it. Thank you. And then on the expenses, you know, appreciate, you know, I understand the guide, but single digit for this year. I mean, it implies, you know, decent step up here from, you know, 3Q to 4Q, you know, to get there. And I'm just wondering if that 4Q number is going to be a good baseline, you know, as we kind of go into 2025. or if there's, you know, one-time type of investments or kinds of, you know, transitional, you know, costs that may fall out as we go into 2025 off of the Q4 number.

So we're looking to invest in the company more, so there will be more personnel costs as we bring on branches. The fourth quarter has some of the new branches online. but doesn't have everything, you know, all the new branches that we're planning on doing.

So remember also we brought on staff, you know, mid-year as well that, you know, the full year effective, that staff will appear in 2025.

Understood. And then, you know, maybe just kind of, you know, general qualitative, you know, update on the outlook for multifamily and, you know, how you guys view, you know, the 96 million and the 358 million maturing in, you know, Q4 and 2025. So, you know, MPLs were down a bit in that bucket this quarter. And, you know, there's a little tick up in the 30 to 89, just, you know, what you're seeing from those repricing and maturities as they come in from a cash flow perspective.

Well, yeah, so even though the 30, you know, 30 to 89 is up, really when you break that down, The 60 to 89 bucket is actually only two basis points, and it's down. So, you know, we're not seeing the late-stage delinquency flowing through. You know, we may see a little bit earlier stage, but we're very, very active and proactive in taking those steps. those situations well in hand and managing them to a successful conclusion. Great.

Thank you. That's all I have.

Thanks, Chris.

Thanks, Chris.

Our final question will come from Manuel Navas with DA Davidson. You may now go ahead.

Good morning, Manuel. Good morning. Good morning. The near-term NIMS stable guidance, how much could it change if the pace of cuts shift, if we go 25-50? What's kind of the sensitivity around that near-term guidance?

Well, I think there's a lot of variables there, including the competitive situation that we're dealing with and the the preferences that are taking place in the customer's mind.

I think you really have to... As John said, the competitive would drive our CD repricing, our other transactions. Is that a parallel shift or a non-parallel shift for the loan repricing? There's a lot of variables that we have talked about in our NIM discussion that would give rise to different scenarios depending on the assumptions you want to make.

So the really major takeaway is that the steepening of the curve by 200 basis points would increase our net interest income, as I said earlier, by $4 million. And and $20 million in the second year. And then you layer on top of that the additional loans because that's a static balance sheet number. You layer on top of that additional loans that are all coming in at a higher rate. In addition, of course, we have about a billion dollars between the end of this year and into 2025 of loans that are contractually going to reprice upward let's ballpark it somewhere around 165 basis points or so. So there's a lot of moving parts here, and certainly the initiation of a reducing cycle, a reduction cycle by the Fed is, is all very positive for us. It's positive for us from our funding situation, as we mentioned earlier. Clearly, you know, it looks like it will not, you know, cause us too much of a problem on the loan side. Loans will continue to come on board at higher rates, higher than portfolio rates. And, of course, you know, the other effect is that credit is, you know, credit problems, repricing issues that may have been anticipated on the commercial real estate side are less likely to happen as a result of less pressure on the interest rate side.

There seems to be less near-term repricing risk, but the reprices that have occurred, what has been the experience so far in terms of credit stress and And what is your appetite to keep that, like how, what is your appetite to keep those loans or push them out in any sense?

The loans that we priced in 23 and 24 have been performing. I don't think we've had anything that's, you know, materially affected our delinquencies or non-performings in any way, shape, or form. You know, remember, we stress test our loans at origination. upwards, shock them upwards 200 basis points and increase the net operating expenses as we underwrite the loans. So we anticipate credit, you know, that scenario, which is kind of what came to fruition. Those loans have all performed as indicated.

Competition is interesting. It's probably driving some deposit competition. What are you seeing so far in the market on the deposit side? And there's a large competitor today putting multifamily at 1.9% reserves. Just thoughts of the implications for you from that, and how is that impacting growth? So a couple of questions.

I think over the past few years, I think over the past – you know, 12 months or so, or, you know, maybe a little bit less than that, maybe nine months, you've seen that the issues associated with that competitor are its own issues and really bear certainly little relationship to flushing. And, you know, I think that, you know, most of the markets appear to have little, you know, little impact. You know, I think that the major... The major upside of that is that there's a large competitor that is basically out of that market, out of that commercial real estate market, which should benefit Flushing on a go-forward basis.

Has the deposit cost declined in October? He did October 1st. It's been a couple weeks. Has there been any pushback to this point?

Very little.

Great.

Very little to none. All right.

And then is there any reason that only half was repriced? Is that just kind of like public funds, smaller accounts, relationship basis, just kind of trying to understand why you pushed it out to half?

That was the half that we thought we could reprice at the time. So we continue to evaluate the other transaction accounts and price those down as well. Okay.

Thank you for the comment.

Thank you. This concludes our question and answer session. I would like to turn the conference back over to John Buren for any closing remarks.

Well, thank you very much. Well, we're very, very pleased with the quarter, and we thank you very much for your attention on the call. Of course, we're always available to answer any questions that you might have on the follow-up. Thank you again.

Have a good weekend.

Bye now.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.