QCR Holdings, Inc.

Greetings and welcome to the QCR Holdings Incorporated earnings conference call for the second quarter of 2024. Yesterday after market closed, the company distributed its second quarter earnings press release. If there is anyone on the call who has not received a copy, you may access it on the company's website at www.qcrh.com. With us today from management are Mr. Larry Helling, CEO, and Mr. Todd Gipple, President and CFO. Management will provide a summary of the financial results and then we'll open up the call for questions from analysts. Before we begin, I would like to remind you everyone that some of the information management will be providing today falls under the guidelines of forward-looking statements as defined by the Securities and Exchange Commission. As part of these guidelines, any statements made during this call concerning the company's hopes, beliefs, expectations, and predictions of the future are forward-looking statements, and actual results could differ materially from those projected. Additionally, information on these factors is included in the company's SEC filings, which is available on the company's website. Additionally, management may refer to non-GAAP measures, which are intended to supplement but not substitute for the most directly comparable GAAP measures. The press release available on the website contains the financial and other quantitative information to be discussed today. as well as the reconciliation of the gap to non-gap measures. As a reminder, this conference is being recorded and will be available for replay through August 1st of 2024, starting this afternoon approximately one hour after the completion of the call. It will also be accessible on the company's website. I would now like to turn the call over to Mr. Larry Helling at QCR Holdings. Please go ahead, sir.

Thank you, operator. Welcome, everyone, and thank you for joining us today. I'll start by presenting some of the highlights from our strong performance for the quarter, and we'll conclude by recapping our strategic focus. Todd will then follow with additional details regarding our financial results for the quarter. We delivered outstanding second quarter results highlighted by expanded margin and growth in net interest income. We also had another quarter of strong capital markets revenue and well-controlled expenses. Our asset quality remains excellent, and we further strengthen our capital levels. In the second quarter, we generated net income of $29 million, or $1.72 per diluted share. This resulted in an ROAA of 1.34% and an ROAE of 12.72%, which we believe is at the high end of our peer group. Our net interest income increased by nearly 3% in the second quarter, an 11% annualized growth rate, fueled by higher average loan balances and an expanded margin. Total year-to-date deposit growth is 8% annualized. Our year-to-date total loan growth is 9.5% annualized, which is within our annual target range of 8% to 10%. Year-to-date loan growth, net of loans identified for securitization stands at 2.1 percent annualized. Our loan growth has been driven by our low-income housing tax credit lending program and our traditional commercial lending business. Margin pressure eased during the quarter as deposit costs further stabilized and loan yields increased. As a result, our adjusted NIM expanded two basis points from the previous quarter. Our fee income remained robust again this quarter, led by our capital markets revenue of $18 million. Furthermore, our wealth management business continues to experience exceptional growth. Our year-to-date assets under management have grown $628 million, or 12 percent, with nearly 250 new client relationships added in our established markets. In addition, we recently expanded with key hires in the southwest Missouri and central Iowa markets. Wealth management revenue year-to-date has increased 26% annualized over the same period in 2023. Over the last 10 years, our compound annual growth rate in assets under management has been a remarkable 12%, driving an 8% compound annual growth rate in non-interest fee income. During the second quarter, we maintained tight control over our operating expenses. Non-interest expenses decreased nearly 2 percent compared to the previous quarter. This reduction was achieved through a targeted focus on expenses at the local market level and greater efficiencies in our centralized back office operations. All of this enabled us to strengthen our capital ratios during the quarter. by growing our total risk-based capital and our common equity Tier 1 capital ratios. Our asset quality remains excellent, and our current credit trends are stable. During the quarter, total criticized loans continued to decline for the third consecutive quarter, and net charge-offs also declined. Non-performing assets as a percentage of total assets increased slightly, but remains well below our historical averages. Our allowance for credit losses as a percentage of total loans held for investment was unchanged for the quarter at 1.33 percent. The increase in the provision for credit losses during the quarter was a result of strong loan growth and the impact of declining GDP on our CECL model factors. We continue to have rigorous underwriting standards, conduct thorough asset quality assessments across all loans, and maintain conservative reserves. We remain optimistic about the economic health of our markets and the financial well-being of our clients. We are not seeing any significant signs of economic softness across our businesses and markets. Commercial office space exposure continues to be modest at 3 percent of total loans with an average loan size of $898,000. These loans are primarily located in suburban markets and are performing in line with our expectations, with no repayment concerns. We have a strong pipeline of high-quality, low-income housing tax credit loans. We consider this to be the best asset class in our loan portfolio. The entire LIHTC industry has a long track record of strong performance. The LIHTC lending program has been critical in providing affordable housing and has been a key strategic focus for our company over recent years. As you know, this program generates significant capital markets revenue, which contributes materially to our strong non-interest income. In addition, LIHTC loans are ideal for securitization due to their solid historical track record and strong investor demand. Securitization of LIHTC loans enhances the optionality in our balance sheet by reducing our capital needs, improving liquidity, and enhancing our net interest margin. In addition, it will slow our on-balance sheet growth as we approach the $10 billion asset threshold. Ultimately, this ongoing program will allow us to continue to grow our earnings and tangible book value while improving our capital ratios. Our next round of securitization is targeted for mid-August. Our capital levels remain strong and continue to improve. Our solid and consistent earnings growth in conjunction with our modest dividend enables us to grow capital and strengthen our capital ratios at a pace faster than is our peers. Turning to our strategic objectives for 2024 and beyond, our goal to sustain our exceptional performance for our shareholders and our customers. We are committed to achieving industry-leading financial results, including EPS growth, ROAA, and tangible book value per share growth. In addition, we enhance shareholder value by implementing processes that improve customer experiences, employee well-being, and the communities in which we live and conduct business. In summary, We are dedicated to top-tier financial performance and exceptional client service, which will drive continued shareholder value. I will now turn the call over to Todd to provide further details regarding our second quarter results.

Thank you, Larry. Good morning, everyone. Thanks for joining us today. I'll start my comments with details on our earnings performance for the quarter. We delivered adjusted net income of $29.3 million, or $1.73 per diluted share for the quarter. Our strong results were driven by higher net interest income, significant non-interest income from capital markets revenue, and well-controlled expenses. Net interest income reached $56 million, a $1.5 million increase from the first quarter. This 3% linked quarter growth in NII was fueled by an expanded margin and strong loan growth. Our adjusted NIM on a tax-equivalent basis improved by two basis points from the first quarter and was at the upper end of our guidance range. The increase was driven by a combination of improving loan yields and moderating deposit costs. Notably, the shift in our deposit composition has stabilized as our non-interest-bearing deposits remain static combined with modest changes in the mix of our interest-bearing and core time deposits. Looking ahead, while the inverted yield curve continues to be a challenging environment for margins, we expect to continue to benefit from repricing in our loan portfolio and stabilizing deposit mix. Additionally, we expect our next securitization during the third quarter to create NIM accretion of approximately two to three basis points on a full quarter basis. Therefore, assuming a stable funding mix, we anticipate continued growth in net interest income and are updating our guidance for adjusted NEM TEY in the third quarter to be in the range of static to up five basis points. Additionally, we continue to be well positioned for a rates down scenario. As we have previously discussed, during the rising rate cycle, our balance sheet has shifted from asset sensitive to liability sensitive. This will result in further margin expansion when the Fed begins to ease short-term rates. Turning to our non-interest income of $31 million for the second quarter, which was up from $27 million in the first quarter. Our capital markets revenue was $18 million in the quarter, as our LIHTC lending and revenue from swap fees continues to benefit from the strong demand for affordable housing. Our pipeline in this business remains healthy, and therefore we are reaffirming our capital markets revenue guidance for the next 12 months to be in a range of $50 to $60 million. We also generated over $4 million of wealth management revenue in the second quarter, a slight increase from the seasonally strong first quarter. Due to date, our annualized wealth management revenue has grown by over 26%, driven by increased assets under management from organic growth in our existing client base and our expansion of this business into two of our markets. The success of this attractive and growing business is a result of the high-touch value proposition that our highly experienced team of advisors deliver, as well as the strong relationships that we have developed with our clients and a network of trusted legal advisors and other key referral sources. Additionally, non-interest income during the second quarter included income of $2.2 million from bank-owned life insurance policy proceeds. Now turning to our expenses. An interest expense for the second quarter totaled $50 million, an improvement from $51 million for the first quarter and at the lower end of our guidance range. The length quarter decrease was primarily due to lower salaries and employee benefits and lower loan and lease expenses, partially offset by higher professional and data processing expenses. This created positive operating leverage and contributed to a 500 basis point reduction in our efficiency ratio, which improved to 57% in the second quarter. We continue to diligently manage our operating expenses, both at the local market level and through back office operational efficiencies at the corporate level. We continue to benefit from our investments in technology and building a best-in-class group operations team that supports our multi-charter community banking model. As we look ahead to the third quarter, we expect our non-interest expenses to continue to be in the range of $49 to $52 million. Now turning to our balance sheet. Our total loans grew by $206 million during the quarter, funded primarily by the strong growth in core deposits of $316 million that we had in the first quarter. Year-to-date loan growth is in line with expectations and in anticipation of our next loan securitization, we have designated $243 million of LIHTC loans as held for sale at the end of the quarter. Our long-term securitization strategy supports the continued success of our LIHTC lending business. Our LIHTC program generates significant capital markets revenue, which enhances our revenue diversification. Our securitization strategy also helps maintain our portfolio within established concentration levels. Our upcoming securitization in the third quarter will consist of $243 million of stabilized tax exempt LIHTC loans. We've improved our efficiency of execution since our initial securitizations late last year and expect better economics in this securitization through lower transaction costs. However, This pool of stabilized tax-exempt LIHTC loans originated several years ago at tighter spreads when we were beginning our LIHTC lending program. As a result, we do expect a modest loss on this securitization next quarter. Importantly, in recent years, we have been originating new tax-exempt LIHTC loans at stronger spreads. As these loans stabilize and are available for securitization, we will recognize further improvements in net economics. Finally, we do anticipate a securitization of taxable LIHTC loans in the fourth quarter. Our portfolio of taxable LIHTC loans that are stabilized and ready for securitization have been consistently priced at wider spreads, which help drive stronger economics. This will more than offset the modest loss from the tax-exempt securitization in the third quarter, which will result in a net gain from our securitization activities in 2024. Now, turning to deposits. Total deposits declined modestly during the quarter, coming off the very strong deposit gathering performance in the first quarter. Year-to-date, total deposits have increased 8% on an annualized basis. Expanding our core deposits remains a top priority. This strategic focus enables us to sustain our future loan growth and, when combined with our securitizations, helps us reduce our reliance on wholesale or higher cost funding. Our total uninsured and uncollateralized deposits remain very low at 18% of total deposits. In addition, the company maintained approximately $3 billion of available liquidity sources at quarter end, which includes over $1 billion of immediately available liquidity. Now shifting to asset quality, which continues to be strong. During the quarter, Our total credit size loans continue to show improving trends, declining 34 basis points as a percentage of total loans and leases to 2.41%. We are pleased to report the sequential improvement in total credit size loans over the past three quarters, amounting to a 35 million reduction in balances since September of 2023. NPAs increased by 3.2 million to 34.5 million, or 39 basis points of total assets. The modest increase was driven primarily by two relationships, while nearly half of our total MPAs consist of just four relationships. We've recorded a total provision for credit losses of $5.5 million during the quarter, with $4.3 million related to credit loss expense for loans and a balance of $1.2 million related to unfunded commitments. Charge-offs were down significantly in the second quarter at $1.8 million, a decrease of $1.8 million, or 50% from the prior quarter. The increased provision was due to the strong loan growth and the impact of declining GDP on our CECL model inputs. This provision, combined with a sharp reduction in charge-offs, resulted in an allowance for credit losses to total loans held for investment that was static quarter over quarter at 1.33%. Our tangible common equity to tangible assets ratio increased by six basis points to 9% at quarter end, up from 8.94% at the end of March. The second quarter improvement in our TCE ratio was primarily driven by our strong earnings, as the change in AOSAI this quarter was negligible. Our total risk-based capital ratio increased to 14.33% at quarter end, and our common equity Tier 1 ratio increased to 10%. improving by three basis points and nine basis points, respectively, on a linked quarter basis. The improvement in both capital ratios was due to our strong earnings. We are also pleased to report another meaningful increase in our tangible book value per share. It grew by $1.72, representing just over 15% annualized growth during the quarter. Over the past five years, our tangible book value per share has increased by nearly 12%, on a compound annual basis, reflecting the results of our top-tier financial performance and our focus on creating long-term shareholder value. Finally, our effective tax rate for the quarter was 8% and at the low end of our guidance range. We continue to benefit from our high-yielding tax-exempt loan and bond portfolios. As a result, this has helped our effective tax rate to remain one of the lowest in our peer group. We continue to expect our effective tax rate to be in the range of eight to 10% for the full year 2024. With that added context on our financial results, let's open the call for your questions. Operator, we're ready for our first question.