ConnectOne Bancorp, Inc. Q3 FY2025 earnings call

• Merger integration was complete, with systems integration going exceptionally well, leading to seamless operation as one organization.
• Margin continued to expand, with the net interest margin at 3.11% in Q3, expected to be 3.25% or higher in Q4.
• Deposit growth was robust, with client deposits growing sequentially by ~4% annualized. Loan originations were healthy with over $465 million in new funding.
• BoeFly continued to show upward trend, with focus on translating franchise opportunities into SBA revenue growth.
• Credit quality remained solid with nonperforming assets at 0.28%, charge-offs below 0.20%, and 30-day delinquencies low.

During the third quarter, ConnectOne's operating return on assets increased by over 30 basis points to 1.05%, and PPNR as a percentage of assets rose by approximately 50 basis points over the past year to 1.61%. The net interest margin grew to 3.11% from 3.06% in the sequential quarter and from 2.67% a year ago. Client deposits grew sequentially by approximately 4% annualized, building on the second quarter's 17% annualized growth. Annualized sequential loan growth matched deposit growth, maintaining the loan-to-deposit ratio below 100%. The loan pipeline is strong, with expected acceleration in loan growth in the fourth quarter. Nonperforming assets were 0.28% at the end of the quarter, charge-offs were 18 basis points, and 30-day delinquencies were 0.08% of total loans.

• Expect Q4 margin to be 3.25% or above.
• Anticipate loan growth to accelerate in Q4, with average loans increasing by more than 2% quarter-to-quarter.
• Target ROA of 1.2% and ROTCE of 15% in 2026, with expectation of reaching close to 1.3% ROA by year-end 2026.
• Project loan growth in 2026 to be in the 5% plus range depending on economy and loan demand.

• Temporary factors like high rate subordinated debt and higher average cash balances compressed the third quarter margin; if excluded, NIM would have exceeded 3.50%.
• Impact of Fed actions on deposit growth and pricing, though expected to be positive.
• Uncertainty around rent-regulated loans with $700 million aggregate exposure, though positioned conservatively.
• Government shutdown impact on SBA lending, though pipeline remains strong.

Q: Maybe starting on your profitability targets. I think last quarter, you talked about, Frank, hoping to hit 1.2% ROA and 15% ROTCE in 2026. Just interested in your current thoughts around profitability targets for next year.

A: I think those targets are in line -- still in line with where we said before, easily see 120 by the second quarter. And my model at least is showing us getting close to 130 by the end.

Q: The first question I have is now that you guys have closed the merger full quarter in, how do you guys think about the capital allocation and deployment going further? Frank, you mentioned you think your stock is a value. Are share repurchases on the table here? And I would just like to get some color on that.

A: From my perspective, I know Bill made some comments relative to our ability to build capital. Capital is building quite quickly at the company, as you know, from a variety of areas, including profitable growth that we have. So I do think we'll have a lot of flexibility in 2026 to make some determinations as to what we should do with that capital. Obviously, if we see higher growth rates and we're opportunistic to engage in organic growth at the higher end of the spectrum, that will leave a little bit less for other opportunities. But overall, I think we can pretty much do anything we want to do in '26. Bill, I know you had some strong...

Q: First one for me. It was really nice to see those noninterest-bearing deposits up, I think, 3.7% quarter-over-quarter and then CDs down 2.8%. Maybe just talk to us about what's going on, a few of the wins there? Are they acquisition related? Meaning is the FLIC deal and the brand starting to bear some fruit? And then looking ahead, can we see deposit growth match or exceed loan growth for next year, maintaining that sub 100% loan-to-deposit ratio?

A: Yes. Well, I'll take your questions in reverse order. So the goal would be to match the deposits with the loans. And that actually answers the first part of your question. There's been a focus here at ConnectOne over the last couple of years to really redefine and make certain that the business we're in is to be a relationship bank that takes in deposits and make loans. And we like taking in deposits from the same folks that we make loans to. So we've had an effort ongoing here through all of our lending teams to really focus on making sure we're going after the types of clients that bring us substantial depository relationships. And we've been weeding out part of the slowdown in the overall growth is weeding out of clients who maybe promised us depository relationships and never delivered or just folks that wound up here with a transaction. We really don't want to be just a transaction-oriented bank. So I think with that focus and that focus continues going forward, I think actually, the merger that we just completed, the group of clients that we onboarded there, actually, they have had the sort of a reverse issue there where they were very deposit-rich and didn't take advantage of all the lending opportunities for those clients. So I think rounding out the folks that we're getting in front of on Long Island, this continued focus on high-quality relationship-type clients is really what's driving the profitable and as Bill said, spread-dependent business that we have. And also, it's allowing us to bring on high-quality type clients that should ensure that we keep a loan-to-deposit ratio in and around the range today.

Q: Just a follow-up here for me. So maybe first, you can just remind us what your balances of rent-regulated loans are at the end of the quarter. And then the follow-up to that is just curious kind of if you could update us on your thoughts if we do get a Mamdani win next week in the mayoral election, what that means for the whole rent-regulated kind of industry in your opinion?

A: All right. Let me start with the numbers, and I think we're positioned well. The total aggregate exposure to majority-owned rent-regulated $700 million. 60% of it or $400 million came from First of Long Island, where we have a 20% mark against it. So in my view, that's completely ring-fenced -- rest of it, ConnectOne portfolio is about $275 million, less than 2.5% of our total loan portfolio, conservatively underwritten, no value-add projects, continue to perform well, moderate, I would say, not super significant stress in the portfolio. And Frank, do you want to comment on. Sure. As you can well imagine, we get this question a lot, certainly being centered in the New York Metro market. And my answer has been fairly consistent. There are so many variables as to what will happen from today forward, whether he wins, he doesn't win. Let's not forget the other alternative to Mamdani is Cuomo, who is the one who signed the actual 2019 rent regulation law that's causing a lot of the consternation in the portfolio anyway. So it's not like we're going from one side of the spectrum to the other. Rent regulated is here to -- rent stabilized rather, is here to stay. It's a constant struggle within that marketplace relative to the expense base versus the revenue stream. On the positive side of the equation, we saw this year a 3% increase that came on the back of a 2.7% increase the year before. It looks like for the next couple of years, we're still going to have a rent-regulated board that's fairly reasonable and is taking into account inflation, other costs that are being pushed through the system. There are those who would argue that potentially a Mamdani administration might actually be good for the rent-regulated portfolio in that he's looking to work to reduce the expense side by reorganizing the tax basis and tax base for real estate taxes and other potential solutions to allow landlords to be able to invest in the property to get more units back on the market. As you know, there's some 50,000 rent stabilized units that are vacant today because of the change in the 2019 law. So there's just too many variables to put your finger on, here's what's going to happen. All I know is this has been something that's been in existence for a very long time. It's ebbed and flowed. And for the most part, I'm pretty optimistic that one way or another, people need places to live. I think there's going to be programs put in place to make certain that, that product continues to be available to residents in New York City. It will change over time, how that change occurs. Hard for me to say right now. We're pretty -- we're not pretty, we're very comfortable with the loans that we underwrote. We were never part of the whole value-add story to get rent stabilized tenants out and replace them with market tenants. So we really don't have that risk on our balance sheet in those lending opportunities. And I think over time, it's just going to get figured out what to do with that product set. So we're comfortable with the operators that run the assets that we have. And we have very strong LTVs and debt service coverage ratios at properties that are in our portfolio. Of course, we're going to watch very, very closely what happens over time. But I do think this is a very, very slow-moving process. I don't think anything is going to happen with any immediacy in the short term.