First Internet Bancorp 3rd Quarter Earnings Conference Call - FIRST INTERNET BANCORP

Financial Performance:

• Reported third-quarter 2026 net income of $4.8 million ($0.54 EPS, excluding $400k non-recurring severance); adjusted net income was $5.1 million ($0.57 EPS).
• Achieved record total revenue of $43.9 million (up 7% sequentially) and record net interest income (NII) of $34.7 million (up 7% sequentially, 14% YoY).
• Adjusted pre-provision net revenue (PPNR) increased 14% sequentially to $17.1 million.
• Net interest margin (NIM) expanded 8 basis points sequentially to 2.47% (2.55% fully taxable equivalent); loan yields rose 8 bps to 6.42%, while funding costs declined 6 bps to 3.32%.
• Provision expense dropped to $1.16 million from $1.34 million in Q2, though a $2.6 million specific reserve for a franchise finance non-accrual (plus $600k interest reversal) reduced pre-tax earnings by $3.2 million ($0.29/share).
• Delinquencies fell to 48 basis points from 78 bps in Q2; net charge-offs decreased by more than half sequentially.
• FinTech deposits grew over $1 billion to $4.7 billion (40% growth on-balance sheet), aiding the replacement of higher-cost CDs and brokered deposits.

Guidance and Future Outlook:

• Q4 2026 guidance assumes a 25 bps Fed rate hike in December, forecasting fully taxable equivalent NIM of 2.75%–2.80% and NII of ~$38.5 million.
• Non-interest expense guided at $26.5 million; provision expense expected between $7.5 million and $8 million.
• Q4 2026 EPS guidance is $1.02–$1.07, projecting a near-doubling of operating EPS from the $0.57 reported in Q3.
• Management expects NII growth to significantly outpace loan balance sheet growth in 2027 due to yield redeployment and rate environment.
• Loan growth for 2027 projected at ~10%, with full-year 2027 NII expected to rise substantially over 2026.
• In a conservative stress scenario (two rate hikes in late 2026), forecasted NII in 2027 could be negatively impacted by 2.5%–3% on a static balance sheet, though dynamic redeployment mitigates this.
• Management indicates no immediate plans for share buybacks; excess capital will be deployed to expand the loan book.

Business Segments and Product Lines:

• Lending Portfolio: Achieved a weighted average yield of 7.51% on new originations; portfolio yield increased 8 bps to 6.42% due to capital redeployment from low-yield portfolios.
• Growth Areas: Construction, investor commercial real estate, single-tenant lease financing, wealth advisory lending, and embedded finance loans increased.
• Run-off Areas: Healthcare finance, franchise finance, and residential mortgages continued to decline.
• FinTech: Fee revenue up 13% sequentially (190% YoY); added two new partners with more in the pipeline for payments, deposits, and lending.
• SBA: Originations up 14% sequentially but below expectations due to tighter underwriting and softer industry volume; average loan size decreased from >$2M to ~$1.8M.
• Technology: Automated significant portions of SBA origination, reducing manual data entry by >80% and freeing up ~620 annual lender hours.

Market and Competitive Landscape:

• SBA production remains subdued due to weaker industry volume and new Oct 1 SOPs requiring stricter documentation (e.g., quality of earnings reports) that align with existing management standards.
• Management emphasizes a strategic shift toward "better returns" rather than balance sheet growth, focusing on risk-adjusted returns in specific niches.
• Credit trends are normalizing; broader delinquency and charge-off trends are improving despite one specific relationship deterioration.

Risks and Challenges:

• Credit Event: A significant franchise finance borrower moved to non-accrual late in the quarter due to failed refinancing; $2.6M specific reserve established, though recovery is viewed as possible.
• Rate Sensitivity: The bank remains modestly liability-sensitive but has shifted portfolio mix to 57% fixed and 43% adjustable loans (vs. 75% fixed in Sept 2024) to mitigate rate risk.
• SBA Volume: Continued underwriting discipline and tighter industry standards may suppress SBA originations and gain-on-sale revenue in Q4 and potentially early 2027.
• Operational: Seasonal cash fluctuations (elevated cash balances at quarter-end) and timing of FinTech deposit repricing create some volatility in deposit/cash balances.

Management Commentary and Tone:

• Tone was confident and optimistic, describing the quarter as proof that the "business model is working."
• Management highlighted "record revenue," "margin expansion," and "disciplined credit" as primary drivers, dismissing the single credit event as manageable.
• Emphasis placed on operational leverage: generating higher revenue and growth without proportional expense increases via AI and automation.
• CEO David Becker reiterated a preference for balance sheet expansion over share repurchases, citing the high return on incremental capital deployment.

Analyst Questions and Answers:

• Rate Impact: Management clarified that two rate hikes (Dec/Mar) would reduce 2027 NII by 2-3% on a static basis, but redeployment of cash flows from lower-yielding loans would offset much of this, maintaining NIM growth expectations.
• Deposit/Cash Levels: Elevated cash balances at quarter-end were attributed to timing of FinTech partner payments; cash is expected to decline by ~$100M as it is redeployed into loans.
• Credit Quality: Clarified that while the franchise finance non-accrual was a shock, broader credit metrics (delinquencies, charge-offs) are improving, and no other major credit deterioration is anticipated.
• Expense Growth: 2027 expense growth expected to be significantly below 10% due to AI-driven efficiency, minimal new headcount, and merit-based compensation adjustments only.
• SBA Outlook: SBA loan sizes are shrinking, and underwriting has tightened; however, volume is expected to normalize and grow in 2027 as lenders pivot to new sources and smaller deal sizes.

Other Key Points:

• The company successfully reduced its reliance on higher-cost funding by using FinTech deposits to replace CDs and brokered deposits.
• A "clean slate" is projected for year-end regarding credit trends, with delinquencies trending downward.
• The bank is actively converting fixed-rate loans to variable-rate assets (57% fixed down from 75%) to benefit from a potential rate hiking cycle.
• Management explicitly stated they will not "manufacture loan growth" by compromising credit standards, particularly in the SBA and franchise finance sectors.