VersaBank

Good morning, ladies and gentlemen. Welcome to VersaBank's third quarter 2022 financial results conference call. This morning, VersaBank issued a news release reporting its financial results for the third quarter and year to date ending July 31, 2022. That news release, along with the bank's financial statements and supplemental financial information, are available on the bank's website in the Investor Relations section, as well as on CDAR and EDGAR. Please note that in addition to the telephone dial-in, VersaBank is webcasting this conference call live over the internet. The webcast is listen-only. If you are listening to the webcast but would like to ask a question in the Q&A session following Mr. Taylor's presentation, please dial into the conference line the details of which are included in this morning's news release and on the bank's website. For those participating in today's call by telephone, the accompanying slide presentation is available on the bank's website. Also for today's call will be archived for replay, both by telephone and via the internet, beginning approximately one hour following the completion of the call. Details on how to access the replays are available in this morning's news release. I would like to remind our listeners that the statements about future events made on this call are forward-looking in nature and are based on certain assumptions and analysis made by VersaBank management. Actual results could differ materially from our expectations due to various material risks and uncertainties associated with VersaBank's business. please refer to VersaBank's forward-looking statement advisory in today's presentation. I would now like to turn the call over to Mr. David Taylor, President and Chief Executive Officer of VersaBank. Please go ahead, Mr. Taylor.

Good morning, everyone, and thank you for joining us for today's talk. With me today is Sean Clark, our Chief Financial Officer. Before I begin... Just a quick reminder regarding the adjustments we made last quarter to the way we are describing our business and our quarterly results. These include breaking out non-interest expense into its component digital banking and DRT parts to provide a clearer picture of the individual performance of each of the operations and enabling better comparison to our peers in each sector. In addition, within our digital banking operations, we now present net interest margin based on both total assets, as is convention with publicly traded banks in Canada, as well as excluding cash securities and other assets from total assets, as is the practice of U.S. banks. Finally, we began to report our efficiency ratio for only our digital banking operations, which excludes the impact of DRTC. Now on to the results for the quarter, which are reported and will be discussed on this call in our reporting currency of Canadian dollars. I will note that we provide U.S. dollar translations for most of our financial numbers in our standard investor presentation, which will be updated and available on our website shortly. The third quarter So outstanding loan growth in our core digital banking operations has a 75% year-over-year and 24% sequential increase in our Canadian point-of-sale financing business drove our loan portfolio to another new high of more than $2.8 billion. And I will note that 75% year-over-year growth betters very healthy 51% year-over-year growth in the Canadian point-of-sale portfolio last quarter. It is worth mentioning here that we achieved this growth with essentially no impact on our interest margin and without relaxing our stringent credit. The continued growth in our loan portfolio drove record quarterly revenue for the third quarter, both for digital banking operations and on a consolidated basis. We achieved near record profitability as we returned to both year-over-year and sequential growth net income, even with net income being dampened by transitory non-interest expenses related to strategic growth initiatives that we believe will accelerate our growth in both the near and long terms. Specifically, we continued to incur short-term costs related to our acquisition of a national U.S. bank, which I will discuss more in a moment, development of the equivalent of our highly successful point of sale financing solution for the U.S. market, continued preparation for launch of our Canadian dollar version of our revolutionary digital deposit receipts, as well as incremental costs associated with investing on NASDAQ last September. Combined, these transitory costs add approximately $3 million to our Q3 non-interest expenses. We expect these costs to dissipate over the fourth quarter and return to normalized levels for 2023. Since these transitory costs, third quarter 2022 net income would have been by far our best quarterly profitability in our history. John will discuss the financials in more detail in a moment. In addition to our strong financial performance, the major highlight for the third quarter was the announcement of our signing of a definitive agreement to acquire a fully operational OCC Chartered National U.S. Bank, Minnesota-based Stearns Bank Holding Board. This is a transformational next step for VersaBank's long-term growth strategy, something that has been a priority for us for several years and one of the key reasons for our NASDAQ listing. We are steadily progressing towards closing the transaction, which we expect by the end of the calendar year. To be renamed VersaBank USA upon closing, Stearns Bank Holding Ford will provide VersaBank with a platform from which to roll out our immensely successful Canadian point of sale financing model to underserved U.S. market. While substantially the same as our Canadian point of sale offering, going forward, you will hear us refer to the U.S. version of this program as our U.S. Receivable Purchase Program, which is the language that is more consistent with U.S. market environment. We are currently enjoying working with the teams holding for parent company Stearns Financial and look forward to exploring future opportunities for collaboration to our mutual benefit. On our Q2 earnings call, I discussed having signed up our first customer, the limited early rollout of our Receivable Purchase Program in the US. That customer is a large, North American commercial transportation financing business focused on independent owner operators. They are a great example of the inherent value of our offering, addressing an unmet need in the market by providing highly flexible and economically superior technology-based alternatives. They have already significantly expanded their business with us. The U.S. customer And small business point of sale financing market is massive, $1.8 trillion and growing rapidly. Our unique and attractive solution arrives at a time when one of the two primary sources of funding for point of sale business in the US, the public market, has all but dried up. We continue to be very encouraged by the discussion we're having with potential partners in the US. I very much look forward to closing on our US bank acquisition to be able to fully capitalize on this opportunity. I'd now like to turn the call over to Sean to review our financial results in detail. Sean? Thank you, David.

Before I jump in, folks, just a quick reminder that our full financial statements and MD&A for the third quarter and year-to-date 2022 are available on our website under the investor relations section, as well as on CDAR and on EDGAR. And as David mentioned, all of the following numbers are reported in Canadian dollars as per our financial statements, unless otherwise noted. Starting with an overview of the balance sheet, total assets at the end of the third quarter surpassed the $3 billion mark for the first time, $3.1 billion. 35% from $2.3 billion at the end of Q3 last year, and up 14% from $2.7 billion at the end of the second quarter of this year. Cash and securities at the end of Q3 was $218 million, or 7% of total assets, down from $297 million, or 13% of total assets at the end of Q3 last year, and up from $198 million, or 7% of total assets, at the end of Q2 of this year. These trends are the result of the bank deploying cash into higher-yielding lending assets and low-risk securities over the course of the quarter. Our total loan portfolio at the end of the third quarter proved to be another record balance of $2.81 billion, an increase of 44% year-over-year and 15% sequentially. I'll come back to this in a moment. Book value per share increased 8% year-over-year and 2% sequentially to $12.14, which is also our record for the bank. These trends were both a function of higher retained earnings resulting from net income growth, partially offset by dividends paid, with a year-over-year increase also being impacted by our common share offering in the U.S. last September. Our CET1 ratio was 12.51%, up from 11.94% at the end of Q3 of last year, and down from 13.6% at the end of Q2 of this year. While our leverage ratio at the end of Q3 was 10.38%, up from 9.99% last year, and down from 11.63% at the end of Q2 of this year. Both our CET1 and leverage ratios remain well above our internal targets. Referring to the income statement, total consolidated revenue increased 35% year-over-year and 14% sequentially to a record $21.2 million, with the increase driven primarily by higher net interest income from our digital banking operations, resulting from the strong growth in our loan portfolio that I mentioned earlier. As David noted previously, we returned to both year-over-year and sequential growth in consolidated net income in Q3 with increases of 5% and 16% over the respective periods. Net income for Q3 was $5.7 million, and, as was the case in Q2, was dampened by a number of transitory costs related to critical investments in several strategic growth initiatives, including the U.S. bank acquisition, the launch of the U.S. version of our point-of-sale offering, and preparation for the launch of our digital deposit receipts. all incurred in advance of these initiatives generating incremental profitability for the bank. Transitory costs also included certain elevated costs resulting from our investing on NASDAQ, which we have been able to reduce substantially commencing in early August. As David noted previously, these transitory costs totaled approximately $3 million for the current quarter. Earnings per share for Q3 was $0.20, which was down 20% year-over-year due to the higher number of shares outstanding resulting from the issuance of 6.3 million common shares under our US IPO in September of last year. The share was up, however, sequentially by 18%. I want to reiterate David's comments earlier that we expect the costs associated with the strategic business development initiatives to mitigate somewhat in the fourth quarter and return to normalized levels for 2023. The strong growth in our overall loan portfolio was driven by our point-of-sale financing business, which increased 75% year-over-year and 24% sequentially, reaching the $2 billion mark. This growth continued to be driven mainly by strong demand for home finance, home improvement, HVAC, and auto receivable financing. Our point-of-sale portfolio continues to expand a portion of the overall portfolio as well, as per our strategy, now representing 71% of our total loan portfolio as of July 31st, up from 66% last quarter. Our commercial real estate portfolio increased 1% year-over-year and decreased 3% sequentially to $804 million at the end of Q3. As we noted last quarter, management has taken a more cautionary stance with respect to the commercial portfolio due to expected volatility in valuations within this asset class in a rising interest rate environment and the potential impact the same on the borrower's ability to service debt, as well as due to concerns related to higher commodity prices attributed to current global supply chain disruptions and a very tight labor market. both of which have the potential to drive higher construction costs. Notwithstanding our cautious approach, we remain very comfortable with the risk profile of our commercial real estate portfolio, which has been established through our work with well-established, well-capitalized development partners, and further, which boasts modest loan-to-value ratios on individual transactions. Turning to the income statement for our digital banking operations, net interest income for this segment for the third quarter increased 38% year-over-year and 16% sequentially to a record $20.1 million. These increasing trends were both primarily a function of loan growth in the respective periods. Net interest margin on all interest-generating assets for Q3 was 2.76%, essentially unchanged from the second quarter of 2022 and up from 2.61% from Q3 of last year. The year-over-year increase was primarily the result of higher yields earned on loans and liquid securities. Net interest margin excluded in the impact of cash, securities, and other assets for Q3 were 3.07% compared with 3.43% in the same period last year and 3.11% for Q2 of this year. These modest decreases are primarily the result of changes in the bank's funding mix. Non-interest expenses for the quarter were $13.2 million compared to $8.2 million for Q3 of last year and $11.8 million for Q2 of this year. Both increases were due primarily to higher costs, approximately $3 million of which were transitory in nature, related to strategic growth initiatives and unadapted listing, which we discussed earlier this morning. The year-over-year increase was also a function of higher salary and benefits expense, attributable to a higher staffing level to support expanded business activity across the bank, higher costs associated with employee retention, and higher office and facility-related costs attributable to the implementation of the bank's return-to-work strategies. Cost of funds for Q3 was 1.94%, which represents an increase of 53 basis points year-over-year and 56 basis points sequentially, primarily the result of a higher interest rate environment and changes in the bank's funding mix. Notably, these increases were significantly less than the Bank of Canada's benchmark increase, which was up 50 basis points during the quarter, as a result of our continued focus on ultra-low-cost funding sources, primarily derived from insolvency professional deposits. Insolvency professional deposit balances contracted slightly in Q3 despite adding more partners as we experienced the lag effect of the Governor of Canada's COVID-19 financial support and historically low bankruptcy activity. By recent increases, bankruptcy activity is still well below pre-pandemic levels. As a result, our insolvency professional deposits comprise a smaller portion of our overall deposit base this quarter. We do, however, expect a return to growth in our insolvency professional deposits in early fiscal 2023 driven by an anticipated increase in the volume of consumer bankruptcies, which historically accompanied their rising interest rate environment, and as we continue to add new and solvent professional partners. Our provisions for credit losses in Q3 once again reflected the prudent risk mitigation strategies inherent in our lending models and outstanding credit quality of our loan portfolio. For Q3, we recognized the provision for credit losses, or PCL, in the amount of $166,000, compared to PCLs in the amount of $96,000 for the same period a year ago and $78,000 in Q2 of this year. PCLs are a percentage of average loans with 0.03% this quarter compared with a 12-quarter average of negative 0.01%, which continues to be amongst the lowest of the publicly traded Canadian federally licensed banks. Gross impaired loans at the end of Q3 are $1.4 million, with $1 million of that amount having been repaid two days after quarter ends and the remaining $400,000 scheduled to be repaid in early September of this year. Turning now to DRTC, our cybersecurity services and banking and financial technology development operations, revenue and gross profit, which are generated entirely by the cybersecurity services component of the business, increased 7% and decreased 2% year-over-year to $2.1 million and $1.2 million respectively. Revenue and gross profit were down 12% and 17% sequentially. The sequential decreases were a function of lower engagements over the course of Q3. However, on a year-to-date basis, both revenue and gross profit were up 27% and 26% respectively. Importantly, DRTC's cybersecurity services business continues to be profitable despite incurring higher salary and benefits and business development costs. DRTC, on a consolidated basis, reported a net loss of $0.7 million compared to net income of $0.2 million in Q3 of last year, I know that lost up $0.5 million in Q2 of this year, with the loss being driven by costs outside of the cybersecurity services business ready to work on strategic growth initiatives, including DRTC's work on the bank's digital deposit receipts, as well as other technology development initiatives that are not yet contributing to revenue. I'd now like to turn the call back to David for some closing remarks. David?