Southern Missouri Bancorp, Inc.

Good morning and welcome to today's Southern Missouri Bancorp Quarterly Earnings Conference call. My name is Drew and I'll be coordinating your call today. During today's presentation, if you would like to ask a question, you may do so by pressing star followed by one on your telephone keypad. If you change your mind, please press star followed by two. I'm now going to hand over to Laura Daves, Chief Financial Officer to begin. Please go ahead.

Thank you, Drew, and good morning, everyone. This is Laura Dave, CFO with Southern Missouri Bank Corp. Thank you for joining us. The purpose of this call is to review the information and data presented in our quarter earnings release dated Monday, October 24, 2022, and to take your questions. We may make certain forward-looking statements during today's call, and we refer you to our cautionary statement regarding forward-looking statements contained in the press release. I'm joined on the call today by Greg Steffens, our chairman and CEO, and by Matt Funke, president and chief administrative officer. Matt will lead off our conversation today with some highlights from our most recent quarter.

Thank you, Laura, and good morning, everyone. This is Matt Funke. Thanks for joining us. We're pleased to report this morning that the September quarter, the first of our fiscal year, provided continued growth for southern Missouri. due to the above-trend growth in loans, as well as due to some deterioration in the macroeconomic outlook, required provisioning cut into profitability, despite very low charge-offs and continued strong credit quality metrics. We earned $1.04 diluted in the September quarter. That's down 37 cents from the linked June quarter and down 39 cents from the September 2021 quarter. Net interest margin for the quarter was 3.65%. compared to 4.01% reported for the year-ago period and 3.66% recorded for the fourth quarter of fiscal 22, the linked quarter. The large drop-off from a year ago was due to large amounts of deferred PPP origination fees recognized in that quarter. We viewed our core quarterly margin as stable quarter over quarter and down slightly year over year. But if we did adjust for the 92-day quarter in September, we'd be down about 3.5 basis points compared to the June quarter. Average interest earning cash and cash equivalent balances decreased compared to the linked quarter and year-ago period and are back in line with our historical norms. Net interest income for the quarter was $28.5 million, an increase of $2.9 million, or 11.2% as compared to the same period of the prior fiscal year. The increase was attributable to a 22% increase in the average balance of interest earning assets partially offset by the decrease noted in our net interest margin. On the balance sheet, gross loan balances were up more than $257 million in the September quarter. Compared to one year ago at September 30th, 2021, gross loan balances are up $695 million, or almost 30%. Our fortune merger in February of 22 added $202 million during that period. So net of that, our annual growth rate for the year for the 12-month period would be about 22%. The investment portfolio was little changed over the quarter, while cash equivalents decreased almost $42 million. Deposit balances increased by almost $36 million in the first quarter and have increased by $479 million compared to September 30 of last year. The year-over-year increase was attributable in part to the February Fortune merger, which provided $218 million in deposits of fair value We also had a little more than $28 million that we picked up in a branch acquisition in the second quarter of fiscal 22. FHLB borrowings increased by $187 million during the quarter, consisting of overnight balances. We typically see better deposit growth after our September quarter, and we also see some seasonal loan payoffs in the December and March quarters. But still, this would be a higher-than-normal overnight position for us due to the very strong loan growth that we had this quarter. Greg is planning to speak to some key credit themes. Greg?

Thank you, Matt. Our borrower's credit performance remains quite strong. We noted for the last several quarters that we were working with two hotel industry relationships tolling just under $24 million with business models that were particularly impacted by the pandemic. We continue working with those borrowers and have transitioned them back to principal and interest payments at this time. Nine million in such loans are considered special mention assets, while the other 15 million is considered substandard. Adversely classified loans were a little over 27 million and remained relatively unchanged from the June quarter. A year ago, adversely classified assets totaled 17 million. Watch and special mention credits totaled a combined $31.2 million at September 30th. We're up about $6.8 million during the quarter, due primarily to one ag relationship being more closely watched. Non-performing loans were just under $4 million, or 0.13% of gross loans at September 30th, down just a little bit as compared to June 30th. and as compared to just over $6 million, 0.27% of gross loans one year ago. The reduction in non-performing loans was attributable primarily to the return to accrual status of one loan relationship secured by a single-family residential rental property, partially offset by an increase of about $650,000 related to a customer from the fortune merger. Nonperforming assets were 5.7 million, or 0.17% of total assets at September 30th, down about 600,000 as compared to June 30th, and as compared to slightly above 8 million, or 0.31% of total assets one year ago. In addition to the reduction in nonperforming loans, we sold a legacy foreclosed asset, And past due loans continue to remain at very low levels. At September 30th, past due loans 30 days or more were up slightly in dollar terms from one year ago, but remained at a low level of 21 basis points. And they remained at 21 basis points at June 30th compared to September 30th. To date, we're now... seeing any material changes to our credit profile since June 30th. Turning to the ag portfolio, ag production loans and other loans to farmers were up $30 million in the quarter and up almost $14 million compared to this time last year. While ag real estate balances were up $4.5 million over the quarter and up $22 million compared to a year ago. Our agricultural customers are close to finishing the 2022 harvest, and we could likely see many of them finish by the end of October or early November, which is something that we have not seen in many years. Fall drought conditions have allowed our farm customers to move forward quicker than normal with their harvest. The majority of land that our producers farm on can be irrigated with flood or center pivot irrigation, which has allowed them to withstand the drought conditions. And they are generally reporting above average yields for most crops for this year. We would anticipate loan prepayments to occur slightly faster than normal. However, lower river levels have been impacted by the drought conditions may cause some delays for some farmers to fulfill their contracts of river terminals. Rail-based inland grain elevators, however, are accepting grain, and they're allowing our farmers to move a large part of their crops out. Our crop mix was approximately 25% soybeans, 30% corn, 20% cotton, and 20% rice, with another 5% mix of specialty crops. Input costs for the 22 season were substantially increased from the prior year. However, farmers have been able to contract at more favorable prices than they could receive in prior years as well, which offset part of the increased cost of production. Our lenders maintain close contact with our borrowers, and the expectation is that the majority of our farmers should be able to pay out for the 22 crop season. Laura, would you provide some additional details on our financial performance, please?

Thank you, Greg. Matt hit on some of the key financial items already, but I wanted to share a few details on the margins. First item is our net interest margin in the September quarter with 3.65%, which included about seven basis points of contribution from fair-valued discount accretion on acquired loan portfolios and premium amortization on assumed deposits or $520,000 in dollar terms. As PPP loan balances and forgiveness repayment diminished, accelerated accretion of deferred origination fees on those loans dropped significantly in the September quarter, adding just $37,000 to interest income, which had no material impact to the margins. In the year-ago period, our margin was 4.01%, of which six basis points resulted from fair value discount accretion of $376,000, and PPP forgiveness caused us to accelerate accretion of $2.2 million in deferred origination fees, contributing 34 basis points to the margin. On what we see as our core basis, our margin remained relatively unchanged from the prior quarter, and was three basis points lower compared to the period one year ago. Average cash balances were significantly lower in the current quarter compared to the year ago period. And security yields were higher, helping our overall earning asset average yield to increase about 33 basis points exclusive of accretion of PPP deferred fees or discounts on acquired loans. our cost of funds increased 34 basis points compared to the year-ago period. In the June linked quarter, we reported a margin of 3.66%, which included a similar benefit from fair value discount accretion of eight basis points and just a bit more recognition of deferred PPP origination fees unforgiveness, contributing only one basis point in that quarter. We viewed our core asset yield as increasing 32 basis points, while our cost of funds was also up 34 basis points over the June quarter. Non-interest income was up just under $1 million compared to the year-ago period, attributable to increases in servicing and other loan fees, as well as deposit account service charges And these were partially offset by decreases in gains realized on the sale of residential real estate loans originated for that purpose. Compared to the linked quarter, non-interest income was down $1 million on lower bank card interchange loan servicing fees and net gains realized on loan sales, decreased mostly in the sale of the SBA guaranteed portion. and also on non-deposit insurance product income. Non-interest expense was up $2.7 million compared to the year-ago quarter, including $169,000 in charges related to M&A this quarter, as compared to just $25,000 in the year-ago quarter. The overall increase was attributable primarily to compensation and benefits, which was up $1.5 million, occupancy expenses up $334,000, data processing expenses of $176,000, and then also legal and professional fees, advertising, and other non-interest expenses. Compared to the link quarter, non-interest expense was down a little more than $400,000, with modest declines, which was spread across in upper categories. The company, again, had very low net charge-offs in the September quarter, little change from the last several months. our trailing 12-month figure is now right at about 109,000, which is less than one basis point. The company recorded a provision for credit losses, or PCL charge, of 5.1 million in the three-month period ending September 30th, as compared to a PCL recovery of 305,000 in the same period of the prior fiscal year. Our allowance for credit losses at September 30th was $37.4 million or 1.26% of gross loans and 960% of non-performing loans as compared to the ACL of $33.2 million or 1.22% of gross loans and 806% of non-performing loans at June 30th, the link order. The increase in RACL relative to gross funds was attributable primarily to a modest deterioration in the economic outlook modeled in RACL methodology. Our tangible common equity ratio declined 43 basis points during the quarter as assets grew faster than our equity. Matt, would you like to share other comments?

Thanks, Brooke. Our loan growth did accelerate in the September quarter, and the growth of more than $250 million resulted mostly from multifamily residential, non-owner-occupied commercial real estate, ag lines, construction, and C&I. All of our regions showed growth this quarter, led by our west region, centered in Springfield, Missouri, and followed next by our east region, which includes much of our ag activity. We expect growth to continue in the next quarter, with our pipeline for loans to fund in 90 days at $230 million at September 30th. down just a bit from a quarter earlier and up from $181 million reported at this time last year. Our non-owner CRE concentration was approximately 344% of regulatory capital at September 30th, increasing by 39 percentage points as compared to June 30th and as compared to 272% one year ago. Our volume of loan originations was approximately $436 million in the September quarter, up approximately $308 million from the June quarter. In the same quarter a year ago, we originated $219 million. Lending categories leading the originations were multifamily residential, non-owner-occupied commercial real estate, construction, and single-family residential. Our June and September quarters are usually our softest for deposit growth, and we saw decreases in transaction accounts, money markets, and savings accounts. Public unit funds increased $43 million compared to the prior quarter, accounting for the quarter's growth. Deposit growth in the fiscal year to date came from our west and south regions as we established relationships with several new public unit depositors in different communities. Our cash balances decreased further in the September quarter, as expected, and we ended the quarter in an overnight borrowing position. We continue to expect increased competition for deposits to negatively impact our cost of funds and margin over the coming quarters. While we did not see any decline in NSF revenue in the quarter, we expect non-interest income may be impacted by further tweaks to our program as we try to reduce fees assessed consumers for small overdraft balances. As we've noted previously, we continue to face competitive pressure on the compensation front as we approach our scheduled calendar year-end adjustments to our compensation program we are looking at what we need to do to remain competitive in our communities, and we'd anticipate that we'll again need to absorb larger increases than what we were accustomed to seeing historically. Greg, any closing thoughts?

Sure, Matt. I'd like to just close out by noting that since our last quarterly call, we announced our agreement and plan a merger with Citizens Bank Shares. Citizens Bank and Trust's 14-branch location serves customers in Kansas City, St. Joseph, Chillicothe, Maryville, and several other communities in Northwest Missouri. Citizens' locations will complement Southern Bank's existing footprint, improve our markets here in Missouri, and provide potential opportunities for other revenue enhancements. As of June 30, 2022, citizens had assets of $1 billion deposits of $904 million, and stockholders' equity of $94.2 million. Citizens has maintained a great core deposit base over its history and will provide an opportunity for us to continue to improve our funding base. Citizens provides us a much more asset-sensitive balance sheet and should help considerably with our net interest margin in the current rising rate environment. A portion of our outsized loan growth for the current quarter was made in anticipation of utilizing some of their excess liquidity and placing them into loans. In addition, we were attracted to the ability to further grow their deposit and lending bases with the addition of our deposit and lending platforms to some of the rural markets, especially some opportunities within the agricultural industry. Overall, we're really excited to be partnering with citizens, and we look forward to our combined organization. Thank you.

Thank you, Greg. At this time, Drew, we're ready to take questions from our participants. So, if you would, please remind folks to send a queue for questions at this time.

Thank you. We're now starting today's Q&A session. If you would like to ask a question, please press star followed by one on your telephone keypad now. If you change your mind, please press star followed by two. Our first question today is from Kelly Motor from KBW. Your line is now open.

Hey, everyone. Good morning. Thanks for the question and great question. Good morning, Kelly.

Thank you.

I think I want to start with loan growth just because it was so incredibly strong. Just wondering if there was anything unusual in that in terms of like line draws or anything because 38% linked quarter annualized is really super strong. So just any color around there and maybe the potential for pay towns prospectively.

We have seen some increases in pay Usage on commercial lines of credit, we did have a little bit of additional ag production lines of credit usage this quarter compared to historical quarters. But other than that, we just had a really strong quarter for growth as our commercial real estate portfolio expanded quite a bit, especially in the multifamily arena. But we also had a... A little bit of a reduction in loan prepayment rates, which also contributed to some of our growth because we didn't have as much going out the back end as what we were booking. But that was the strongest quarter for growth we've ever had.

Got it.

And we should have a pretty good upcoming quarter.

Excellent. And then in terms of funding that growth, it looks like you pulled on the FHLP borrowings. the kind of bridge the gap but you have citizens um coming on which has which is very deposit rich and is flush with liquidity um uh can can you can you just provide us uh remind us what their deposit costs are and if if that gives you kind of the flexibility to to um replace the borrowings you you took out with their core funding base um just any color around that and and um you know, the prospective cost of funds going forward would be helpful.

Yeah, I don't have their number in front of us specifically, but I believe it was below 20 basis points through June 30. We haven't seen a September 30 calculation on that yet, but would anticipate they're probably less sensitive to rising rates on their deposit costs than what we are, just given their deposit mix.

Yeah, I think at 630, I think their cost of deposits were 17 basis points. And then they have on-balance sheet liquidity with a lot of excess cash balances that are greater than what our overnight borrowings are at present, which was a big impetus for some of our loan growth that we had this quarter, the September quarter. We're hoping to utilize most of their excess with paying down our overnight borrowings. But there will be a short-term cost of those overnight borrowings.

Got it. That's helpful. Maybe the last question for me is on fee income. The decline looks like it's mostly driven by resi mortgage. So I'm wondering if this is a kind of good level of gain on sale of loans from here just given the what's happened with the refined markets and secondary markets as well as it looks like interchange is down a little bit. Just wondering if you changed your rates at all or if that's just kind of a blip there. Thanks.

Yeah, on the interchange, that's really just some seasonal fluctuations that we have pretty commonly. No change to the contract there. As far as the secondary market production, of course, we don't know exactly where that will go, but there should be some baseline of activity. I wouldn't be surprised if we see any meaningful improvement over the next couple of quarters until things kind of settle out from the rate shock the secondary market had.

Got it. I will step back now. Thank you so much for all the questions. Appreciate it.

Thanks, Kelly. Thank you.

Thank you. Just to reiterate, if you would like to ask a question on today's call, please press Start followed by 1 on your telephone keypad now. Our next question today comes from Andrew Laish from Piper Sandler. Your line is now open.

Hey, good morning, everyone. Morning, Andrew. Good morning, Andrew. I'm just trying to look at the yield side here. I guess with 6% average long growth, I would have expected the earning asset yield to be up more. than this. I'm just curious, like, what sort of yields were you obtaining on these new loans, and then are there any sort of, like, subsectors or industries that are driving this growth?

Multi-family has been the primary sector driving the growth, as most of that is in what we call LIHTC conversions, which are low-income housing tax credit projects that are being converted from subsidized rent to market rate rent units. And we've really been pretty successful expanding that business line. And that's been the largest component of our growth. We will see during the current quarter, we'll see quite a bit of ag lines pay down. And now I think we'll have some seasonal outflows on some of the lines of credit that we have for our businesses. Our current loan pricing is, you know, a lot of the new loans we're originating now will be in the upper fives to mid sixes. maybe even a little higher than that just depending upon when the loans were committed and we did have a little bit of a lag in asset yields that were booked this last quarter but the loans being booked this current quarter should be very positive to overall asset yielding mix gotcha that's helpful but

And then I guess kind of related to the provision, the, you know, I've always understood those multifamily and light tech loans to be pretty safe assets. And I'm just curious if there's anything that's driving beyond just the growth, the increase in the allowance this quarter, I would not expect the loss rates on those on that product to be overly concerning. So I'm just curious, like what kind of what went into building the allowance this much this quarter?

Yeah, it's not anything specific to the loans that we originated or the multifamily loans in particular. It's really just the economic conditions that are layered into our lost drivers projected out over time. We're seeing from the data service that we used increased expectations for unemployment and a little bit lower GDP growth over the time horizon. And that's just caused the overall calculation to kick up a couple basis points.

Underlying credit metrics, I mean, we're really not seeing any deterioration. We have very few, if any, past due loans, not really much of any changes. I mean, credit quality has been stellar. It's just forecast for the future and us wanting to Now, make sure we have our cushion for if things do slow down in 2023 calendar year.

Gotcha. No, that makes sense. You've covered all my other questions. I'll step back. Thank you.

Thanks, Andrew. Thank you. There are no further questions at this time. I'll hand you back over to Matt Funke for closing remarks.

Okay, thank you again, Drew. Thank you, everyone, for joining us. Appreciate your interest in the company. Apologies.

Matt, sorry to interrupt, but we do have another question from David Welch from River Oaks Capital. Go ahead, David.

Hi, Matt. Sorry for jumping in there on your closing comments, but I think we're all just asking questions about the extraordinary loan growth. I think it surprised a lot of long-time observers of your company. And I understand you're probably, as you mentioned, or Greg mentioned, a little pre-funding the acquisition earning assets. But I guess, was there anything either wholesale or brokered, or I'll call it non-standard, in the loan production in the most recent quarter?

We really don't have anything in this quarter that's outside the realm of what we have historically done. We just had a standard quarter. We just had a lot better growth than some historically.

Okay. I'll say put your thumb on the scale a bit to be a little more aggressive with – rates or terms or structures or anything? Because I know you have to be looking at that excess liquidity that comes through the acquisition. Did you get full pricing for the loans you put on the books this most recent quarter?

The multifamily that we booked was all primarily related to one group of investors. And Their loan pricing tends to be some of the most competitive that we offer, and so more of our growth was at a little bit of the lower end of rates for us, but they're also some of the most highly qualified borrowers that we do business with. So we did give a little bit on loan yields on some of that growth, but it's to our best borrowing groups.

Okay.

Where we feel like there's very, very limited credit exposure.

Okay. Is that a long-time customer for the bank?

Yes, we've been doing business with them for over 10 years now.

Okay. All right. And the projects are generally in footprint, or are they more nationwide or more regional? No.

Our borrowers are within our footprint, but the underlying projects will be scattered over multiple states, basically southeastern United States, Oklahoma, Texas, Arkansas, Mississippi, Tennessee, Alabama.

Okay. All right. Thank you, and again, sorry for interrupting your closing comments, sir.

No worries, David. Thanks for your interest. Again, thanks, everyone, for joining us, and we'll speak again soon. Thank you.

That concludes today's Southern Missouri Bancorp Quarterly Earnings Conference call. You may now disconnect your line.