Q3 2022 Pathward Financial Inc Earnings Call
primarily due to these projects.
The solar construction market has been largely impacted by supply chain constraints, leading to volumes well below our expectations, and as a result, we anticipate our tax rate to be higher than previously expected in the short term.
To address credit in the current environment, we are pleased that our growing commercial finance portfolio remain healthy as reflected in our reduced allowance reserved rates. Thank you. Thank you. Thank you. Thank you.
We continue to be confident in the ability of this well-diversified portfolio to perform, even during a difficult economic environment, has it done historically.
Our team has deep experience and hands on collateral management, which is how the mitigate losses during previous cyclical downturns.
Because of this hands-on collateral management, our ability to manage losses in the dental turn for exceeding traditional C&I lending.
Given the dynamic economic environment, we believe it will be helpful to provide guidance for the current and next fiscal year. For the current and next fiscal year.
We expect fiscal year 2023 gap earnings per share to be in the range of $5.25 to $5.75.
When adjusting for certain non-recurring items, net of tax.
We expect an adjusted earnings per share to be in the range of $5.10 to $5.60.
At this point, we will only be providing guidance for EPS, and will not be addressing specifics on various income statement items.
Brain will discuss our broad assumptions in more detail later.
Now, let me turn the call over to our president, Anthony Shureff to provide updates on our lines of business. Anthony Shureff to provide updates on our lines of business.
Thank you, Brett.
Let me first update you on our Banking as a Service business, which includes our payments, tax services, and consumer lending capabilities.
We are prioritizing relationships that have more favorable, sustainable economics.
which often means longer-term agreements with partners that use a broader suite of capabilities and multi-product solutions that we provide.
A great example of this is our relationship with H&R Block.
With whom we have an agreement in place for June of 2025.
consistent with these priorities.
We are not renewing agreements, without güzel liberty tax in Jackson, bill what we can now offer to Zach Mywood, suscribi- preferably tax in Jackson hewitt. it.
as a result.
We expect taxpayer advance volumes to decline in roughly 30% next year, which will impact fiscal year 23 revenue.
but also will help reduce the magnitude of the seasonal volatility in our business. The season of volatility in our business.
We did not expect any material impact to our refund transfer volumes.
which we view as our core tech services payment solution.
By exiting these two limited partnerships.
We expect to gain expensive efficiencies over time, and it will allow us to focus our resources on our growing H&R block and other banking-as-a-service partnerships.
Changes in capital markets are also impacting our banking as a service business.
Recent pullbacks at investment funding of NeoBanks and Fintech firms are slowing opportunities that are pipeline.
But new solutions and programs with legacy partners which represent the majority of our Banking as a Service business remain strong and ongoing.
Moving to critic quality.
Our total non-performing loans and leases as a percentage of total loans and leases improved 24 basis points from the prior quarter to 0.71%.
The allowance as a percentage of loans and leases decreased from 2.38% in the prior quarter to 2.04% in the current quarter.
due in large part to the decrease in seasonal reserves for the tax services loan portfolio.
Excluding the reserves for the tax loans, reserves drop from 1.59% to 1.44%.
As Brett mentioned,
We are pleased with our team's ability to continue to grow the commercial finance portfolio.
The loans and leases in the commercial finance portfolio were $2.9 billion at June 30.
an increase of 14% from the third fiscal quarter last year.
As we potentially enter a period of stacculation.
Characterized by low or negative growth coupled with higher interest rates of inflation.
We continue to believe our commercial finance portfolio is well positioned.
First, rising rates will result in higher yields on our new business and existing variable loan portfolios. Further, our customer base tends to expand as companies lose their traditional funding sources during the credit cycle, which favorably impacts our working capital line such as asset-based lending and factoring.
For these reasons.
We expect continuous strong loan growth and higher yields when the commercial portfolio going toward.
Now, let me turn the call over to Gwen Herrick, RCFO to provide an overview of our financials. RCFO to provide an overview of our financials.
Thank you, Anthony, and good afternoon, everyone.
Net income for the quarter ended June 30th total $22.4 million or 76 cents per share, a decrease of $16.3 million from the third quarter of fiscal year 2021.
excluding 3.4 million of rebrand related expenses and 3.1 million of separation expenses.
net of tax impact, our adjusted net income, was $27.3 million for the quarter.
The quarter's net interest income of $72.2 million represents a 5% increase from the prior year. Higher yields on the security portfolio and greater commercial finance interest income more than offset the sale of the remaining community bank portfolio year over year.
while we are seeing some growth in commercial finance yields.
The yield beta to rate increases has been slower than we have expected thus far.
likely due to accessible liquidity in the market.
In total, quarterly average loans and leases grew by $129 million or 4%.
Driven by strong growth in the acid-based lending and factory and portfolios.
Concurrently, interest expense was elevated this quarter beyond its traditional run rate as the company accelerated $900,000 of interest expense associated with the retirement of the subordinated debt.
Our balance sheet optimization combined with higher yields and a reduction in excess cash from stimulus payments helped drive the third quarter net interest margin to 4.76% compared to 3.75% in the prior year.
Non-interest income of $54 million.
was down $8.5 million from the prior year.
As Brett mentioned, the prior year's quarter benefited from greater card fee income associated with stimulus activity. The
as well as timing of last year's tax season.
Furthermore, the company recorded fewer gains on loan sales in the current fiscal year as a solar construction market has been impacted by supply chain constraints leading to extended construction turns.
For the nine months ended June 30th, total tax product income, net of losses and direct product expenses was $43.5 million.
up from $40 million recorded in the prior year period. While taxpayer advances came in below our expectations, overall refunds transfer volume grew 9% year over year. Overall, refunds transfer volume grew 9% year over year.
Looking ahead to next year, we expect strong refund transfer volumes and greater efficiency in our tax line of business as we exit the two aforementioned partnerships. As we exit the two aforementioned partnerships.
Total non-issuers expenses for the quarter increased 19% year over year.
Excluding the 3.4 million of rebrand related expenses.
$3.1 million in separation costs, and $1.2 million in expenses related to the non-renewal of the two tax partner agreements.
Core expenses increased 9% year over year.
The increase in expenses generally stem from higher compensation caused by industry wide inflationary pressures.
and greater technology spend to support current and future commercial finance growth. and future commercial finance growth.
Additionally, the company started to incur higher card expense.
under the rising rate environment.
As interest rates rise, we will experience elevated card expenses with some partners associated with certain contractual agreements. With some partners associated with certain contractual agreements.
However, we do expect the higher variable card expenses to be higher than the previous
To be less than the corresponding revenue gains as interest income benefits from the higher rate environment and through additional fee income from off-barrel achieved deposits.
Income tax expense in the third quarter increased to $7 million compared to $4.9 million in the prior year.
These expenses correspond to effective tax rates of 22.6% and 11% respectively.
As mentioned previously, the increase is driven by reductions in renewable energy investment tax credits compared to the prior year.
To expand further on the guidance prep provided earlier in the call, we estimate fiscal year 2022 gap earnings per share to be in the range of $5.04 to $5.24.
and fiscal year 2023 gap EPS to be in the range of $5.25 to $5.75.
when adjusting for gain on sale of trademarks.
rebrand related expenses and separation expenses. The company expects fiscal year 2022, adjusted earnings per share to be in the range of $4.28.
$2.4 and 48 cents.
and fiscal year 2023 adjusted EPS to be in the range of $5.10 to $5.60.
These estimates assume a Fed Funds rate of 3.5% by September of 2023.
any increases above this level could positively impact our earnings.
While our earnings may be negatively impacted if rates do not reach that expected level.
As we mentioned in last quarter's call
The company retired the outstanding $75 million subordinated debt on May 15, 2022. The debt had recently moved out of its fixed phase to a variable rate.
As a result of the retirement, the company will save approximately $6 million of interest expense over the next year.
Finally, the company remains well capitalized with a regulatory leverage ratio for the bank of 8.2% and we remain committed to returning capital to shareholders.
In July , we repurchased 306,000 shares at an average price of $40 and 74 cents to July 22.
That concludes our prepared remarks.
Operator, please open up the line for questions.
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We will pause here briefly as questions are registered.
Our first question is with Frank Schiraldi from Piper Sandler. Frank, your line is open.
Hey Frank.
I wondered if in terms of the EPS guide you could just give a little detail on
Does that reflect a speddy state environment in terms of the macro? Does it assume some macro deterioration in line with the economic outlook? Or how do you think about that when you're given the 2023 guide?
Well, I think the first big picture piece of this is, it's the yield question.
And as we are helping everybody understand, our portfolio will not reprise as quickly as some might have fought.
And the other thing was going on and Glenn mentioned in his comments, there's extreme liquidity in the market. And so even though rates have moved up in theory, they've not moved up in practice. And I'm talking about intermediatoration kind of.
So we do believe we're going to get obviously higher net interest margin and we're going to get the benefit of the yield, perhaps not as aggressive as some might have thought. And then as we go through this period from a yield perspective, we'll sustain that benefit for a longer period of time that might have been thought even as we come down a lower rate environment. So not really about the macroeconomic environment as much as about the speed at which yield will pick up.
Okay, so it doesn't necessarily reflect an economic slowdown at all. It's just more subtle on the, on the, the men's side, I guess, the thing.
That's right.
And then I guess maybe you could.
If you could just talk a little bit to, you know, the
Brett you noted that maybe yields have moved higher as much as some may have thought if just you know is it the liquidity you know what is the main reason why the market lending rates haven't really reflected the increase in rates today
Yeah, and then again, that's kind of what we were talking about these banks are flush with deposits.
they continue to be flush with deposits.
And so the rates are reflective of...
why I can put it out for versus having it sit in, you know, Fed funds because I'm not having a problem gathering deposits. Now, I believe that's going to flip and this is going to quickly turn and then we'll have some pricing that's going on in the marketplace that's a little bit more like normal you have when there's a rating. But we've never had a situation where you've had this kind of a rate increase with this much liquidity in the market. It's going to take a lot from the system.
Okay, and then just on the announced exiting of those two relationships on the tax side, any sort of color you can give, I know you talked about the reduction in the refund advance product expected year over year, but you also talked about maybe picking up some efficiencies over time. So if we think about what the impact is to the bottom line on 2023 earnings, if you think about it, even within 30 to 40 percent of income from market
Do you have that math for us? Well, Anthony, why don't you talk a little bit about what you're doing there and why, and maybe, Glenn, you can address any kind of a math question.
Sure, as we noted in our remarks, we really want to focus on partners based that have broad banking as a services opportunities for us. While we don't necessarily disclose partner economics, we do expect our taxpayer advance volumes to be reduced by about 30% as we're talking about. But the impact of these exits are included in 33 guidance.
But we believe we'll be able to improve our efficiency over time by redeploying these resources to optimize our core, what we call our enterprise partner. And number two, do you think it will have the result of impact of reducing building?
Yeah, and I think Anthony covered it there, Frank. We provided a fair amount of detail around the reduction in tax advances. We list out the components of the revenue and other items for our tax advances. And that's all, then all that is factored into our overall guidance.
for fiscal year 23 that we will not have Jackson Hewitt and Liberty going forward.
And then as you might assume, there are resources internally that we can either save, or we can redeploy it to higher growth, higher margin type of businesses. Isaac.
I guess that's what I'm kind of getting at. I guess that's more down the road as opposed to baked into the idea that there's some offset here because there's some ability to do some other things that's more sort of down the road. That's correct. Baked into 2023. Okay.
And then, you know, I think, Anthony, you mentioned the...
this slowing pipeline as far as new partners.
but the strength of existing partnerships on the banking as a service side. And, you know, just wondered if you guys maybe could give any color into growth from here on the card fee side.
Well, let me take part of that and then up to you, Anthony. So Frank, what we're seeing with our partners.
is a lot of new programs, a lot of new ideas coming out. Because of the sort of macroeconomic environment of what's going on that's pretty well understood in Fintech and some of the venture capital firms, the Neal banks, we're seeing a little bit of a slow down there. And that's got to play its way out. I actually think there'll be some of them that survive and come back strong.
but we're still seeing interest in from our existing partners, large programs, new products, new capabilities, and bringing those in. So Anthony, what would you add to that?
I think that's well, but again, as we looked to optimize our core enterprise partners, even back to the last question, we're gonna be either saving or redeploying resources to really grow and go wider and deeper with those partners. We have seen a pullback of Neil Bank and Fintech because of the investments in those companies as declining, but we still do have a robust pipeline of opportunities. And those are the ones that we're really gonna be focused on in our banking as a service pipeline.
Okay, thanks for all the color.
Thanks, Ryan.
Our next question is with Steve Moss from B. Riley Security.
Steve, your line is open.
a Graffandoud.
Maybe just starting here on.
Okay, but I'll start on the on the tax side here, you know, maybe just, you know, or are there any pricing demands from the tax partners that made the business less attractive and called the change in business plans here?
Well, I would say it really wasn't a pure pricing conversation. We're really wanting to go to this portion of the industry where you're offering a breath of products, not a single threaded product through a partner. Having a partner is a administrative proposition. And if you can have two, three, or four products, your capability is going to the same partner.
That gives you economies of scale that make sense. Both of those arrangements were single product arrangements, and that's what we're trying to get away from.
But Steve, this is Glennet. I, Steve, this is the Glennet. I think you're gonna assume though that, you know, these contracts came up for renewal and, you know, read a, read a dress, the strategic.
thinking there, but you could also assume that as a single-threader product and a new contractor renewal that perhaps the economics didn't, what the new economics might be would not clear our return hurdles.
Right, and kind of on that point to where I was going to go to next is just, is there a fundamental shift in the business outlook or maybe the business plans here after this year's unusual talk season?
I don't think I would say there's a fundamental shift except this that we're thinking about the tax business as banking as a service.
And we expect our interactions with the tax business to be broader and to begin to address other kinds of consumer things. And as Anthony mentioned in his remarks,
Our relationship with HNR Block is exactly that nature where it's broader than just a tax play. Cal um
And then on the tax credit side of the business.
Gwen, I think it was you who mentioned that, the short term, gonna be a short term impact for the tax credits. Just kind of curious, does it go into fiscal 23 and if so, kind of what are you guys assuming for a marginal tax rate in your gottas?
Go ahead, Glenn.
Sure, so it's hard to predict Steve how long this goes now.
Market colors says they're still demand for projects out there
but either between projects getting delayed, primarily supply chain and other perhaps permitting issues, the whole market has seen a slowdown. So we are, you know, we're projecting roughly a... So we are, you know, we're projecting roughly a...
low double-digit type tax rate for next year?
Okay.
And then in terms of, I guess the other thing is gonna wanna ask on the efficiency initiative here, just kind of curious, what are the type of cost that you guys are seeking and just how to think about expenses here for the upcoming quarter.
Okay.
Glenn, go ahead.
Yeah, well, we, you know, as we've talked about, we're continuing to look for expense efficiencies, being able to scale, also tied with some of these, you know, the moving on from two of our tax partners. The moving on from two of our tax partners.
And so we expect to improve our efficiency ratio over time. Some of the want-be-nus in our business could have some short-term ups and downs, but we are working hard to improve that over time.
Okay.
All right, thank you very much for all the color.
Thank you.
Our next question is from Michael Pettitow from KVW.
Michael, your line is open.
This is Mike, this is my associate Andrew, filling in for him. Thank you for taking my questions.
First off, I just wanted to move to the credit side again. Are you making any changes to the underwriting process in the commercial finance or consumer loan portfolios yet, or are you seeing any trends, whether it be inventory or cash flow or anything, starting to give you some concern given the macro uncertainty?
Well, if you remember, you know, the majority of our exposure is in commercial finance, not traditional C&I, which is heavy collateral managed.
And that is precisely what you want to have when you're entering into any kind of a downturn environment. So answer your first question, are we changing anything? No, this is what you want to have. No, this is what you want to have.
in this particular period of time. With we are not seeing any real deterioration in our borrowers, we are starting to see some borrowers trying to leave traditional commercial banks because they've had covenant issues, et cetera, some of which may go all the way back to a COVID. And so we're picking up and some of our ABL growth has been precisely to that.Adould what new scrub Azund, you
On the consumer lending side, I'll remind you that the majority of our consumer lending portfolio is in some way credit enhanced.
meaning that there's a waterfall approach or some other kind of arrangement. And again, with maybe one slight exception, we're not seeing much deterioration in that space either.
Great, thank you. I appreciate the color there. And then just lastly, for me, what kind of a balance sheet size do you expect? Kind of in your turn here in the next quarter. So do you think assets might shrink a bit more or just any sort of color there? Or just any sort of color there?
Glenn wants you to handle that.
Yeah, we've talked about this in the past too. We expect to kind of move around between six and a half.
to $7 billion.
for the foreseeable future.
Great, thank you. Appreciate it. Thank you for your time. Thank you for your time. Thank you. Thank you. Thank you. Thank you. Thank you.
ne
At this time, there are no further questions. So I'd like to turn the conference back to the management team for any closing remarks. Thank you.
Appreciate everybody attending today. Appreciate the questions.
That concludes the password financial third quarter fiscal year 2020 to investor call.
Thank you for your participation. I'm Mary. Thank you. Thank you.