Last December, investmentFlushing Financial Corporation(Nasdaq:Financial Information Center)seems like a good idea.This large New York bank has a solid loan book with low LTV exposureHome mortgages in New York. Despite the problems in that area, I think a mortgage with an LTV ratio below 40% should be pretty safe. That all changed in March, when regional banking turmoil occurred in the US, and Flushing Financial was not immune.
Profitable but still focused on NIM pressure
In my article in December, I expected rising rates in the financial markets to boost Flushing's net interest income, but the market has been warned that this may be slower than expected. Only $1.03 billion of the loan book has variable rates and only $994 millionof the loan program changes in 2023, followed by $785 million in 2024. This means that while Flushing Financial will immediately feel the impact of higher interest rates, it will have to start making deposits and will only see interest income grow gradually. as a collegial analystSheen Bay Research explains, earnings could decrease in 2023 due to the different pace of paying higher interest on deposits and actually collecting higher book interest on outstanding loans.
Unfortunately, the results for the first quarter of this year were even worse than I expected. safe,Income from interest and dividendsThat's an increase of about $21 million from the first quarter of last year, but interest costs on deposits rose more than tenfold to nearly $40 million. Total interest expense rose from less than $8 million to nearly $47 million. This is worse than I expected.
This resulted in a sharp drop in net interest income, from $63.5 million to $46.9 million. Fortunately, I think the worst is soon over, as deposit rates don't seem to be increasing much from here on out, while more loans are being switched to higher yielding loans every quarter. We have seen the slow returns on interest-bearing assets rise. They represent 4.11% of the loan portfolioFirst quarter of 2022which is 4.83%First quarter of 2023The total average share of all interest-bearing assets increased in the same period from 3.77% to 4.61%. Unfortunately, the average interest rate on deposits and other interest-bearing liabilities increased from 0.5% in the first quarter of 2022 to 2.80% in the first quarter of 2023.
In addition, evolution will be slow. A 200 basis point increase in the $660 million average rate that must be recalculated this year would increase interest income by only about $13 million. 175 basis points in 2024 would add another $13 million, meaning it could take Flushing until the end of 2025 to return its net interest income to last year's levels.
However, there is a bright side. The current banking crisis is a liquidity crisis, and Flushing seems to have nothing to worry about, as it is actually seeing an inflow of deposits. At the end of March, the bank had about $5.78 billion in interest-bearing deposits, compared to $5.52 billion at the end of last year. While that's great, it also means there's a "backlog" in cash deployment in Flushing. this onebalance sheetpointed to an increase in cash and available-for-sale securities on the balance sheet, while the bank also reduced FHLB advances from $815 million to $652 million.
The bank has also taken steps to reduce its sensitivity to the level of interest rates. These replacements aren't the holy grail, but they'll helpClosing the duration gapA balance between assets and liabilities makes the situation more manageable.
Despite these measures, results for 2023 are likely to remain under pressure. Net income in the first quarter of the year was just $5.2 million, or EPS of $0.17, but that was also due to higher loan loss provisions (at $7.5 million in the first quarter), which was in in accordance withLoan write-offWhere the problem was discovered about a year ago. Excluding this, net income would likely be around 60-70% higher, at $0.27-0.30 EPS, implyingDividend of $0.22 per sharewill continue to be fully covered on an underlying basis. I expect loan loss provisions to decrease in the coming quarters, but this does not guarantee earnings per share growth as NIM could further decrease during the year.
Additionally, the collapse of New York's Signature Bank could create some opportunities for Flushing. fromQ1 conference call:
We added nearly $250 million in deposits during the quarter. Our liquidity is more than three times that of unsecured and unsecured deposits. User experience and our connection to the community are also key to our success. After key competitor Signature Bank left the market, more opportunities arose, especially in joint relationships.
Flushing Finance is a double-edged sword. I think its sub 40% LTV loan book is safe because the bank is flush with cash and liquidity (pardon the pun). The influx of deposits means the bank should not fall victim to a liquidity crunch (it has access to $3.7 billion in liquidity), but the downside is clear: the lag between repricing the loan portfolio and higher interest payments means net interest margins may continue to fall.
In the first quarter, Flushing's average deposit expense ratio was still just 2.80%. This is likely to continue to increase and is likely to happen faster than loan pricing changes, so I don't expect net interest income to start rising this fiscal year. 2023 will be the year of damage control. Ideally, Flushing should eliminate dividends, but I realize that not only is this a very unpopular proposal, but it will also reduce depositor confidence in Flushing Financial. This means that Flushing is in a dilemma.
From a balance point of view, I don't see any major problems. Flushing has access to liquidity and may even have excess liquidity due to net deposit inflows. Meanwhile, the stock is currently trading at a roughly 50% discount to its tangible book value (TBVPS is $22.18from the end of the first quarter), which makes the FFIC attractive from a fundamental point of view. But this year's earnings are likely to be terrible, and I don't expect earnings per share to exceed $0.80. 2024 may be more promising as more loans will be re-designated, but it will be years before we again see earnings per share of $2 and above from the past few years.
I have a long position in Flushing Financial. I think the bank is still a buy from a fundamental standpoint (balance sheet strength), but I don't expect earnings above $0.85 this year, and EPS is likely to remain below $1.25 in 2024. At these prices, I'm a modest buyer of the stock Flushing Financial, but I'm not a big fan of the cash dividend right now.
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