FinWise Bancorp

Greetings and welcome to the Finlay's Bank Court Fourth Quarter 2024 Earnings Conference Call. 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, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. I will now hand the conference over to management to begin the preparatory months. Please go ahead.

Good afternoon, and thank you for joining us today for FinWise Bancorp's fourth quarter 2024 earnings conference call. Earlier today, we filed our earnings release and investor deck and posted them to our investor website at investors.finwisebancorp.com. Today's conference call is being recorded and webcast on the company's website, investors.finwisebancorp.com. On today's call, management's prepared remarks and answers to your questions may contain forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ from those discussed today. Forward-looking statements represent management's current estimates, expectations, and beliefs, and FinWISE Bancorp assumes no obligation to update any forward-looking statements in the future. We encourage listeners to review the more detailed discussions related to these forward-looking statements contained in the company's earnings press release and filings with the Securities and Exchange Commission. Hosting the call today are Kent Landvatter, CEO, Jim Noon, President, and Bob Wallman, CFO. Kent, please go ahead.

Good afternoon, everyone. Our solid results for the fourth quarter capped off another successful year for FinWISE, highlighted by significant progress in our goal to expand and diversify our sources of revenue to enhance the company's long-term growth. We leveraged the strength of our legacy business with our strategic initiatives and delivered solid financial performance, including a rebound in originations from existing programs, stable revenue, and continued growth of our tangible book value per share. Additionally, at the bank level, we remain well capitalized significantly above federal regulatory standards. We are also pleased with the number of new strategic programs we announced in 2024. Specifically, we added four new lending programs, two of which include our credit enhancement product, one payments program, and one credit card program. We continue to see momentum in the pipeline of new programs, particularly as strategic partners are enthusiastic about the benefits that our broader banking and payments platform provides them. On the regulatory front, we remain well-positioned to guide fintechs through a rigorous process to facilitate regulatory compliance, which continues to bribe us with a strong opportunity to gain market share. As part of our company culture, we have proactively invested in our compliance and risk management infrastructure for years and have successfully managed many regulatory exam cycles. As of the end of 2024, approximately 38% of our total staff is employed within compliance, risk management, BSE, and IT functions. Looking ahead, we are very excited about the outlook for our business, and as of now, we expect a gradual progression in growth as we move through 2025. Specifically, we look for our credit enhancement solution to be a meaningful incremental contributor in 2025 and also expect gradual traction in our BIN sponsorship and payments initiatives, both of which are now live. We also look for continued stability in originations from existing programs coupled with incremental growth from programs we signed late last year that are expected to scale through the next few quarters. Importantly, BIN sponsorship and payments provide a mid- to longer-term opportunity for growth, while our credit enhancement product offering represents a more immediate growth opportunity. By having these offerings under one roof, we now have the capability to enable the majority of use cases. It also provides us with a more sticky and recurring revenue stream, which would initially start slowly, but then accelerates as our programs start to scale. Lastly, we remain laser focused on generating positive operating leverage. We have completed most of the incremental investments in our new initiatives and expense growth going forward will be mostly production driven. With that, let me turn the time over to Jim Noon, our president. Thank you, Kent.

We are pleased to have originated $1.3 billion in loans during the fourth quarter, which brings our total originations for fiscal year 2024 to $5 billion. This is a 16% increase compared to 4.3 billion in the prior year. The fourth quarter of 24 included a seasonal deceleration in originations from our private student lending programs and did not include any material production from the new loan programs we announced late in 24. As we have mentioned previously, this is because there is generally a lag of a few quarters from when we announce until when we start to see meaningful origination levels from new partners. Although it's early in the first quarter, through the first three weeks of January 2025, loan originations are tracking at a quarterly rate of $1.3 billion. As Kent mentioned earlier, we anticipate continued stability in originations from our existing programs and that our new programs will begin scaling up in the next couple quarters. Our SBA 7 loan originations increased again in Q4 versus Q3. as we continue to see a gradual pickup in qualified applicants driven by slightly lower rates. We remain cautiously optimistic that SBA volumes can continue to rebound modestly. We also remain very pleased with the solid growth in our equipment leasing and owner-occupied commercial real estate loans as these portfolios continue to deliver stable interest income and solid credit quality to the bank. On a sequential quarter basis, SBA guaranteed balances increased 1.5%. During the quarter, we began selling some of the guaranteed portions of our SBA loans, which led to the pickup and gain on sale income during the quarter. We've communicated in the past that SBA loan sales are a core activity for us, as long as market conditions are favorable, which was the case in Q4, and we expect those conditions to continue at least in the near term. Our overall balance sheet strategy has remained consistent with both strategic lending and SBA lending during the quarter. In strategic program lending, we mostly originate the sell within a few days, and the held-for-sale balances are primarily cash collateralized. In SBA lending, we originate loans, which includes a government-guaranteed portion, and we may retain this or sell this in the secondary market. The retention of the guaranteed portion generates interest income without credit risk. At the end of Q4, our SBA guaranteed balances and our strategic program loans held for sale, both of which carry lower credit risk, made up 45% of our total portfolio. Moving to credit quality, the provision for credit losses was 3.9 million in Q4, compared to 2.2 million in the third quarter. The increase was due primarily to $1 million in net charge-offs on the non-guaranteed portion of SBA loans, which brings total net charge-offs to $3.2 million for Q4, compared to $2.4 million in the prior quarter. As we've mentioned in the past, our strict collateral policy generally helps mitigate net charge-offs. Non-performing loan balances totaled $36.4 million this quarter versus $30.6 million in the prior quarter. The $5.8 million increase from last quarter was lower than the expected $10 million increase we communicated during last quarter's conference call, mostly due to the continued efforts of our portfolio management team in collecting payments on a handful of delinquent accounts. Importantly, of the $36.4 million in total NPL balance, $19.2 million is guaranteed by the federal government, and $17.2 million is unguaranteed. As discussed on prior calls, a higher rate environment can lead to sporadic increases in MPLs. While some accounts are still being impacted by these higher rates, our call report delinquency table for Q4 will show a fairly material decrease in 30 plus day past due balances. This is again due to the efforts of our portfolio management team in collecting payments and working with our customers. However, we continue to point to the higher rate environment impacting MPLs and currently expect roughly 12 million in potential MPA migration during Q1. Overall, we remain very confident in our portfolio, our underwriting process, and our portfolio management practices. And if interest rates decline further, it could have a gradual positive impact on our MPL metrics. Turning to strategic partner updates, We're very pleased with the strong year we had on new strategic partner announcements in 2024. We expect to build on that success in 2025, and we're very optimistic about our pipeline. Our expectations for two to three new lending program announcements this year remain intact, and we will continue to utilize a thorough due diligence process in launching these programs. Lastly, We mentioned on previous calls that this quarter we would start providing you with some insight into how we generate revenue in our credit enhancement product, along with our cards and payments business lines. Page 5 of our updated investor deck, published today, provides a breakdown of our revenue model by product. As our new products ramp through 2025, we will be able to start providing more details on the progress and traction. To summarize, We are proud of the significant progress we made in 2024 to expand and diversify our sources of revenue through our initiatives, and we're very excited about the outlook for 2025 and beyond. I will now turn the call over to our CFO, Bob Wallman, to provide more detail on our financial results.

Thank you, Jim. Good afternoon. I will briefly review our fourth quarter performance and several key financial metrics with discussions where appropriate. In the fourth quarter, we generated net income of 2.8 million or 20 cents per diluted common share, which brings our full year 2024 earnings per diluted common share to 93 cents. One item I would like to call out for the fourth quarter, the fourth quarter results included an $895,000 loss resulting from calling roughly 160 million of higher yielding brokered callable CDs and replacing them with other wholesale funding at a lower rate. This charge for the unamortized premium on the callable CDs reduced our other miscellaneous income by $895,000. We consider this item to be a non-core reduction of income. Average loan balances, including both held for sale and held for investment loans, totaled 522.2 million for the quarter, compared to 492.9 million in the prior quarter. This increase included growth from our SBA 7A commercial leases and consumer programs. Average interest-bearing deposits were $355 million compared to $341.2 million in the prior quarter. The sequential quarter increase was driven primarily by an increase in interest-bearing demand deposits, money market accounts, and broker time certificates of deposits. Moving to the income statement, Net interest income for the quarter was $15.5 million compared to $14.8 million in the prior quarter, driven by increased volumes in loans held for sale and lower cost of funds, resulting from replacing over $160 million of callable CDs with lower cost CDs as interest rates declined, partly offset by increased interest-bearing deposits generated to support the asset growth. Net interest margin was 10.0% this quarter compared to the reported 9.70% in Q3-24. We expect the net interest margin to gradually compress over time, driven by our proactive strategy to reduce credit risk in the portfolio. It is worth noting that our SBA portfolio generally floats with prime and resets at the beginning of each quarter, so changes in prime can also affect our net interest margin. Non-interest income was $5.6 million in the quarter compared to $6.1 million in the prior quarter. The sequential quarter change was driven primarily by a decline in other miscellaneous income associated with the previously mentioned $895,000 loss from calling our callable brokered CDs, partially offset by higher SBA loan servicing fees, and a gain on the sale of the guaranteed portion of SBA loans as we reinitiated selling limited amounts of the guaranteed portion of SBA loans. Positively, strategic program fees were relatively flat quarter over quarter, even as we experienced a seasonal deceleration in originations in our student lending programs, which highlights the benefits of our efforts to improve diversification among our strategic programs. Turning to operating expenses, We are pleased with the continued deceleration in the pace of growth and expenses as we had called out in our prior calls. Non-interest income expense in the fourth quarter declined to $13.6 million compared to $14 million in the prior quarter. The sequential quarter decline was primarily due to the bonus accrual reversal as performance rewards were determined to be less than previously estimated. Our efficiency ratio improved to 64.2%. from 67.5% in the prior quarter. We remain committed to generating positive operating leverage as we move through 2025 and continue to expect incremental headcount related expenses to be more aligned with increases in production. That said, due to the substantial infrastructure build of the past 18 months, we anticipate the efficiency ratio will remain somewhat elevated until we begin to realize revenue associated from the new programs being developed. Regarding taxes, our effective tax rate was 24.3% for the fourth quarter compared to 25.1% in the prior quarter. We expect the effective tax rate for 2025 to run around 25.0% to 25.5%. One final item I'd like to call out, this quarter we began including balance sheet and income statement accounts related to loans with credit enhancement as well as non-GAAP disclosures at the end of our earnings release and our investor deck. The additional accounts and disclosures are included to show the impact of our credit enhancement product on the financial statements and various financial metrics. While the amounts are currently immaterial, these disclosures will be helpful in understanding FINWISE's financial performance as the product likely becomes more material as we move through the year. With that, we would like to open up the call for questions and answers.

Operator? Thank you.

Ladies and gentlemen, if you would like to ask a question, please press star 1 on your telephone keypad, and the 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 headset before pressing the star keys. And our first question comes from the line of Andrew Leash with Piper Sandler. Please proceed.

Hey, guys. Good afternoon. Hi. Nice quarter here. You know, I wanted to ask about the loan growth, end of period loan growth in the quarter. It looked like several different portfolio types increased. Was there anything specific driving that on what you decided to retain or client growth? What was the driver for the 7% growth?

Yeah, I would say, Andrew, hey, this is Jim. I would say you got a minimal increase quarter over quarter in SBA. In the SPHFI, you got a little bit of the same trend that you saw the last quarter over quarter, which is it ticked up a little bit. But you do see some growth in our leasing portfolio. You also see some growth in the owner-occupied commercial real estate portfolio. And we feel really good about the credit quality there. and the overall types of assets that we're generating there.

Got it. So for the full year, the held for investment portfolio was up about 24%. Is that a repeatable number? It sounds like you're getting good traction with originations overall. Just kind of curious how we should be looking at the growth of the unbalanced sheet loan portfolio.

Yeah, I would say, you know, you saw a step up. Um, last quarter in the HFS balances, and that's really like a derivative of kind of origination activity. Right. And you've seen that kind of stepped up and stabilized now for, for a few quarters. Um, but some of that HFS balance increase that came through last quarter, you know, we said, you know, we do expect this again next quarter. Um, and that in fact happened, uh, here in Q4. As far as growth rates going forward, a lot of the growth in the portfolio over the last 18 months, Andrew, has come from the SBA guaranteed portions. You did hear us announce that we started some of those guaranteed portion sales here in Q4. You also are aware from previous calls and now kind of our plans with the credit enhanced balance sheet, So I think that overall, we do feel really good about, you know, the continued growth rate of the portfolio. The mix may shift a little bit as that credit enhanced balance sheet product, you know, continues to gain traction here in 25.

Got it. That's really helpful. Thanks. And then on the strategic program fees holding flat quarter to quarter, even though originations were down, was there anything unique there that kept it up or was it really just the strong business development effort that you guys have taken on.

Yeah, the strategic program fees were flat quarter over quarter, up slightly. There was nothing particularly to note in regards to the behavior. You saw that originations were down a little bit, but yet the strategic program fees were increased. So, you know, nothing really specific to note in there. It's the behavior we continue to expect in the future.

And just the... Add on to that, you know, all strategic partners or not all strategic partners have the exact type of pricing metrics and the pricing structures. And so, as Bob said, you know, in his comments, the diversification of partners helped actually shore that up.

Got it. Yep, that was my follow-up question to that.

I will step back. Thanks for covering all that. The next question comes from the line of Joe Yanchunas with Raymond James.

Please proceed.

Good afternoon.

Good afternoon. So I'm going to start at a high level here. So what would you say the company is going to look like in, say, three to four years? I'm trying to understand the potential revenue ramp from your new card and payments initiatives, as well as get a better understanding on how the risk profile of the company will evolve from your credit enhancement program?

There's going to be, the next three or four years we're thinking are going to be very exciting times. We've really built what we think is a strong franchise to start with. And there are certain elements that we're particularly excited about. Of course, the new products that we've been building for the last couple of years with the BIN and the payments programs. But also, I think that when we're looking at the balance sheet, we do expect the credit enhanced balance sheet to grow substantially as we move forward. And particularly in 2025, there's great interest in this product by our current and prospective partners. We've piloted that product and tested it, and now the program is fully launched. We anticipate substantial growth in the product in 2025. While we do not normally provide guidance and individual financial statement line items for this credit enhanced product for 2025, we're going to make an exception. We're thinking that just for 2025, and that's not talking about how we think it'll behave in 26 and forward. But for 2025, we think the credit enhanced balances by year end 2025 will increase by 50 to $100 million.

I appreciate that. That was very helpful. And, you know, kind of moving over to strategic partners, you know, how do you pick between partners, you know, today? What's your criteria for partner selection? And, you know, should we expect, you know, future partners to be either involved in the card or payment program?

I can take that one, Joe. This is Kent. The position we're finding ourselves in is we have a very strong pipeline, and the programs that we're currently looking at now are very much more in the mature, stronger, established fintechs. One of the things that we've found is that we've expanded this market significantly by offering the payments, the card sponsorship, and the credit enhanced balance sheet. I think your comment is spot on, is that we are going, we're seeing a much larger, stronger partner in the pipeline, and I think it bodes well for the program.

Got it. And then just one more pivot here.

So the chassis seems to be built. The business model seems to be progressing. You're, you know, very excited about, you know, what's on the come. So my question is, what kind of keeps you up at night right now? What's kind of the cheek, you know, concern?

You know, there are a lot of things that keep us up, but I think, you know, that most all of them are addressed by just vigilance, right? So you're always concerned about cybersecurity. You're always concerned about proper oversight of the FinTechs. You're always concerned about regulatory issues and making certain that our product aligns with FinTechs needs. And so the way we've handled that in the past, there are certain things, of course, that we can't control, such as macroeconomic or things along those lines. But I would say we just remain very vigilant in all those areas and feel confident that we're capturing most of the risks. And so I hope that answers your question.

No, that was great. I appreciate you taking my questions. And the next question comes from the line of Andrew Terrell with Stevens. Please proceed. Hey, good afternoon. Andrew.

Hey. As I think about, I appreciate the color around the mix of incremental growth in a loan portfolio. Can you help me think about the delta between the net yield to you all as you're putting on credit-enhanced lending? What's the difference in the net yield there versus, for instance, SBA loans that you know, most recently were the biggest contributor to growth. Is there much, you know, kind of net economic kind of difference in those portfolios, or are they relatively similar?

My short answer to that is they are relatively similar. As you can imagine, the SBA portfolio has a very low credit risk attached to it, as does the credit enhanced loan portfolio. very low credit risk that is attached to it. And so I think that it's similar.

Yeah, low credit risk. But just from like an income yield perspective, it's also similar?

That's correct. I think that our pricing is based upon risk, and we view that risk as being similar.

Understood. Okay. Can you help me out with when the – You know, the brokered change happened this quarter. I'm just trying to get a better sense of, you know, whether there's much more relief from that deposit cost. You reported this quarter, I think it was 321, 3.21% total deposit costs. I was trying to get a sense maybe of where that kind of exited the quarter or how we should think about the progression of that into 1Q. Yeah.

So on the callable CDs, we called roughly $80 million during the month of October where we received the biggest bump down, but it was about the middle of the month. In October, we did approximately another $80 million. The bump down was not as much, but, again, it happened in the middle of the month. So the benefit from those callable CD programs you should still see continue somewhat into the – into the first quarter. The benefit will not be as great as what we saw in the first quarter, but we will receive the full benefit in the, I mean, what we received in the fourth quarter, but we'll receive that and see that full benefit coming through in the first quarter. So we'll see some continuing decrease, I believe.

Yep. Okay. Got it. And then I think in the preparative marks you mentioned, you know, the expectation still kind of remains the same around adding two to three new lending partners. In 2025, I guess, when you say lending partners, do you mean FinTech partners also focused on, you know, BIN sponsorship payments, credit-enhanced lending, or do you view that kind of pipeline separately? And can we actually see more than kind of two to three incremental new programs added during the year?

Yep. So the two to three target, you know, is consistent, Andrew, and that's on lending programs. Some, it may be a mix of credit enhanced and kind of like the historical held for sale model, but two to three lending programs is the target. The card and or payment programs would be additive to that two to three.

Got it. Okay.

Understood. And just out of curiosity, As you talk about, it's really exciting news to hear that when you look across your pipeline now, you're seeing more maturity, stronger, more established kind of fintechs coming into the funnel, if you will. As you guys look to onboard these maybe more established fintech partners, what's the difference in time versus maybe a smaller partner in terms of complexity and kind of time to onboard? Is there much difference? And if you could maybe help quantify just like how much longer does it take to add a more mature partner versus a less mature?

Sure. I can give you some examples, right? I would say that the worst case scenario of taking a partner through, you know, full launch process and getting them live was 12 months. And I would say, you know, best case scenario was probably two and a half months, something like that. More mature partners do tend to, you know, tilt towards the lower end of that range, Andrew. Twelve months was by far the longest. I would say on average they kind of run six months-ish, seven months-ish, and it does really depend. on two things. First, the maturity of the partner as far as a bank product and the staffing levels that that partner has. And second, the complexity of the product, you know, regulatory disclosures around the product and how unique it might be versus kind of a more standard or vanilla product. Those matter too. So I would say the maturity of of the partner, but also kind of the standardization or uniqueness of the product.

Both of those are contributing factors.

Got it. Okay. And then just, Jim, really quick on the, your comment around the potential for NPL lift. I think you said it was like 12 million potentially in the first quarter. And I just want to make sure I heard that correctly. And could you quantify how much is, you know, guaranteed SBA and what kind of the driving factor is behind that number?

Yeah, sure. So, you know, we had $5.8 million in quarter-over-quarter increase in the MPL balances during Q4, Andrew. That was lower than the expectations that we had set for $10 million, you know, on the last call. This is mostly from the lingering stress with the higher rate environment. There's no broad-based, you know, other issue in the portfolio. 53% of the portfolio, I don't know whether we had this in the script or not, but 53% of the portfolio NPL balance was fully guaranteed by SBA. And I think what we were trying to call out there and to help you model, you know, you will see a meaningful drop in 30 plus day past due balances come through when the call report comes out, um, in a couple of days. And what you'll see there is, you know, you saw about 9 million there, uh, last quarter, and we had talked, uh, you know, on our call to expect about 10 million of migration and then 5.8 came through. What you'll see this quarter is, is about 4 million. Um, And so there is a meaningful drop there, which is certainly very positive and speaks to our portfolio management teams kind of actively working with customers. But we still have lingering stress from the higher rate environment. And what we felt comfortable with giving you guys was kind of a $12 million potential migration in Q1.

Got it. Okay. And then, actually, if I could just, I'm sorry for the continued questions, but one more just around capital. You know, with the growth of the balance sheet incrementally from here coming from sources that you carry very low credit risk on, either SVA or credit-enhanced lending, do you have, you know, more comfortability now in managing either the TCE or the leverage ratio at below kind of this 20% level you've historically run at?

I'll take that question. So, yeah, we've been running at, at the bank, it's been 20% and running about there for the last, you know, for the past year. At the holding company, it's been 25% or 26%. And we do feel comfortable with letting, with growth coming onto the balance sheet and letting that ratio run down probably into the mid-teens level. That's the number we've given in prior calls, and I think we'll be comfortable with that.

Mid-teens bank level leverage?

Mid-teens leverage ratio, yeah, at the bank and holding company, yeah.

Okay, perfect.

Okay, thank you for taking the questions. Ladies and gentlemen, as a reminder, if you would like to ask a question, please press star one on your cell phone keypad.

And now I would like to hand the floor over to Juan Arias to address questions we have received via email.

Thanks, Operator. You had a few questions come in via email. First one, when would you anticipate seeing a ramp in business from new initiatives that you launched in BIN sponsorship and payments?

So what we think is we're going to have a more of a short-term impact of growth from the credit enhanced balance sheet that we've been talking about. We think that the bins and the payments, they gradually come into play over the year. Those build off of a smaller base, but once they start building, we feel very comfortable about them becoming meaningful parts. But I think through the best way to look at this is throughout the year, We'd see a more immediate impact from credit-enhanced balance sheet and a gradual impact that increases throughout the year from payments and cards.

Great. Second question. Netting out the one-time item you called out on the call, 895,000 lost from calling of CDs, is it fair to assume your core EPS number for 4Q was closer to 25 cents?

I'll take that one. Well, as you know, core EPS is a non-GAAP concept. In this particular case, I think it's pretty straightforward how to calculate then the core VPS, the tax effect, the $895,000 cost of terminating those CDs for strategic purposes. Add that to income and divide by the average shares outstanding and 25 cents a share is how we look at it too.

Two more questions came in. Do you have significant exposure to lending points?

Yeah, I can take it, Warren.

So with LendingPoint, you know, we've been proud to partner with LendingPoint since 2017 when they launched with us. We don't give any more specific partner guidance, and, you know, we're sensitive to confidentiality. As far as financial impact to FINWISE, we have an immaterial amount of credit or revenue risk with LendingPoint, and we continue to support them as a partner.

Great. And the last one, can you remind us of the benefits to FinTechs of using a credit enhancement product?

Sure.

Yeah, so we've, you know, we've historically had one, you know, really two options in our SP lending business, HFS and then HFI with full coupon and full credit risk. The credit enhanced balance sheet product really kind of fills a gap where we can provide capacity for asset generation with our partners, but do it in a way that builds stable interest income, you know, here at the bank. And it also minimizes credit risk at the bank. It helps diversify the funding sources for our fintech partners. And, you know, it also reduces the number of parties that they have to align with from an administrative standpoint since, you know, we're the sponsor bank already. So I'd say, you know, those are the kind of key benefits to our partners.

No more questions, operator.

Thank you, everybody. This concludes today's conference. You may disconnect your lines at this time, and we thank you for your participation.