INBK Q3 2014

Investment Analysis Clubs Saul’s Investing Discussions
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Hi all,

Some of us invested in BOFI have also been following INBK. INBK is another branchless bank, is founder led, with founder still have a substantial ownership (about 10%). INBK has been growing its staff, bringing in bankers (the founder comes from an IT background), and has been showing very strong loan and deposit growth. In its early days, INBK’s loan portfolio looked kind of strange, with loans for things like RVs and horse trailers. INBK now does more “normal” looking loans.

INBK is nowhere near a BOFI, but its making very good progress towards becoming a strong “branchless” bank. I 'm invested in both BOFI and INBK.

Below are my notes from INBK’s Q3 2014. The notes are organised by loan growth, deposit growth, interest/non-interest income, asset quality, efficiency ratios, and valuation (based on earrings and book value). INBK had a very good quarter IMO. Based on today’s closing share price, INBK is selling for 0.77 book value.

Anirban
------------- INBK Q3 2014 -------

Earnings release here: http://www.firstinternetbancorp.com/Cache/1001191426.PDFY=&a…

  1. Deposit Growth
  • Total deposits increased 24% to $740M at Sept 30, 2014 compared with $598M at Sept 30, 2013. Comparing with Q2 2014, the deposits increased marginally from $727M to $740M.
  1. Loan Portfolio

  • Total loans as of September 30, 2014 were $695.9 million, increasing $64.3 million, or 10.2%, compared to the second quarter and $256.3 million, or 58.3%, compared to September 30, 2013. That’s pretty handy loan portfolio growth.

  • The Company’s loan-to-deposit ratio climbed up to 94%, up from around the mid 80’s in Q2 2014.

  • Total commercial loans were $308M at Sept 30, 2014 compared to $180M at Sept 30, 2013. That’s a 70% growth in commercial lending activities. A majority of the commercial loans is in credit tenant lease financing. These accounted for $165M in Q3 2014, versus $144M in Q2 2014 and only $66M in Q3 2013.

  • Commercial and Industrial loans rose to $74M at end of Q3 2014 compared with $47M at Q3 2013.

  • Commercial loans comprised 44% of the loan portfolio at end of Q3 2014. The percentage of commercial loans has been hovering around the mid-40%’s for the past two quarters.

  • Residential mortgage + home equity loans accounted for $280M versus $238M in Q2 2014 and $142M in Q3 2013.

  • Trailers and recreational vehicle loans (which were sort of the bread and butter of the company in its initial days) now account for about 14% of the loan portfolio. These accounted for 24.5% of the loan portfolio just a year ago (Q3 2013).

Overall, INBK has steadily grown its loan portfolio and nicely diversified the portfolio b/w commercial and residential loans in the last year or two.

  1. Non-interest income

  • Noninterest income for the third quarter was $1.9 million compared to $1.6 million for the second quarter and $1.6 million for the third quarter 2013. The increase of $0.3 million, or 19.8%, compared to the linked quarter was driven by an increase of $0.4 million, or 33.3%, in mortgage banking revenue.

  • In Q2 2014, the company said the following with respect to decline in non-interest income:
    The Company experienced a $2.23 million year-over-year decline in income from mortgage banking activities. The Company made adjustments to reduce expenses in the second quarter in the mortgage operations to reflect the lower volumes. The Company continued to invest in this revenue channel, launching a construction lending program in Central Indiana in the second quarter.

It appears mortgage operations are gaining traction and the operational improvements are making headways. The following from the earnings release is reassuring:
Over the last 12 months, the Company has increased its sales and marketing efforts related to purchase mortgage business and has added sales personnel since the second quarter following a restructuring of its mortgage operations earlier in the year. Furthermore, it recently launched an Indianapolis-based origination effort to complement its nationwide online origination platform. As a result, origination activity has increased throughout the year with third quarter originations increasing 23.2% compared to the second quarter.

  1. Net Interest Income & Net interest margin (NIM)

  • Net interest income for Q3 2014 was $5.7 million compared to $5.4 million for Q2 2014 and $4.4 million for Q3 2013. That’s about a 29.5% increase in net interest income.

  • The company noted that their sequential increase in net interest income was primarily driven by average loan balance growth, partially offset by a decline in yield earned on loan portfolio and also a decline in their investment portfolio. The bank is conservatively managing prospective interest rate increases and had the following to say with respect to increasing its liquidity profile:
    The decline in investment balances was the result of continued efforts to increase the liquidity profile and reduce the interest rate risk and duration of the portfolio.
    The company also noted the following:
    In connection with the repositioning of the investment portfolio to provide increased liquidity, the Company deployed excess balance sheet capacity to acquire approximately $48.3 million of high quality adjustable rate residential mortgage assets during the quarter to complement its organic loan growth capabilities.

  • The Company’s net interest margin was 2.68% for Q3 2014 compared to 2.61% in Q2 2014 and 2.59% in Q3 2013.

  1. Asset Quality

Asset quality improved significantly.
• Nonperforming loans declined $0.8 million, or 66.0%, with nonperforming loans to total
loans declining to 0.06% from 0.19% for the prior quarter
• The allowance for loan losses to total nonperforming loans increased to 1,366.0% from
436.7% for the linked quarter

  1. Efficiency Measure

Net Interest income (‘000):
09/14: 5,673
06/14: 5,373
03/14: 4,866
06/13: 4,236

Non-interest income (‘000):
09/14: 1,943
06/14: 1,622
03/14: 1,511 (dropped because of decline in mortgage banking activities)
06/13: 3,719

Non-interest expenses (‘000):
09/14: 5,785
06/14: 5,560
03/14: 5,438
06/13: 5,525

Cash efficiency ratios
———————————
09/14: 0.76 (Q3 14)
06/14: 0.79 (Q2 14)
03/14: 0.85 (Q1 14)
06/13: 0.69 (Q4 13)

I like how the efficiency ratio is steadily coming down from the highs of 85% in Q1 2014 to now around 75% in Q3 2014.

  1. Earnings and Book Value

Earnings per share:

09/14: 0.28 (shares out: 4.44M) → Looks like there have been some share buybacks (need to check this???)

06/14: 0.22 (shares out: 4.45M) —> Significant increase in earnings with respect to 03/14 quarter; driven by strong increases in interest income.

03/14: 0.13 (shares out: 4.45M)
12/13: 0.19 (shares out: 4.45M) → Note the dilution following the bank’s secondary offering.

09/13: 0.25 (shares out: 2.86M)
06/13: 0.59 (shares out: 2.82M)

TTM: $0.82

P/E: 20 (using $16.44 closing price as of Oct 23, 2014 close)

I look at the total shareholder’s equity line which is $94.77M (This is the assets minus liability line on the financials.) Then, I look at the diluted share count, which is 4,439,575. With the share price at $16.44, I get market cap of $72.99M. I calculate P/B as (Market Cap divided by Shareholder’s Equity) and get 0.77.

P/B: 0.77

Concluding Remarks

Alright, so this looks downright insane to me. A book value of 0.77!!! Am I missing something or what? With good and diversified growth in loan portfolio, investments in ramping up the scale of the banking, and a CEO who is significantly invested in the business, this looks like a great buy for the long-term. I ‘m going to add to my already large position and sit tight.

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Thanks for the info. I have a small/medium position and am following their story through your great posts.

Tdonb

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Thanks Anirban, your write-ups are incredibly useful.

Saul

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Thanks Saul.

Thinking more about this and answering some questions over at the BOFI board, I think I realised a few things that seem very important for the bullish case:

  1. Let’s look at the interest income, non-interest income, and the non-interest expenses.

Net Interest income (‘000):
09/14: 5,673
06/14: 5,373
03/14: 4,866
06/13: 4,236

Non-interest income (‘000):
09/14: 1,943
06/14: 1,622
03/14: 1,511 (dropped because of decline in mortgage banking activities)
06/13: 3,719

Non-interest expenses (‘000):
09/14: 5,785
06/14: 5,560
03/14: 5,438
06/13: 5,525

If we just look at the net interest income for the just reported quarter, then it would appear that the bank is mostly earning monies from non-interest income activities because the non-interest expense is just as large as the net interest income. But, if we look at the trend, then we will notice that non-interest expense (“operating expenses”) have been flat-lining at least over the past four quarters. In fact, non-interest expense has grown only by 4% b/w 06/13 and 09/14. In the same time period, however, net interest income (i.e., income from the loans) has grown by 34%. If this trend is to hold, then any additional loan book growth should drop directly into the bottom-line. Increase in non-interest income is just the icing on the cake.

The flat-lining of the expenses seems to be aligning nicely with what management has been doing. The bank raised money by selling shares, used these funds to go on a hiring spree to give a boast to its commercial lending activities. So, I think this strategy is working, and we are probably sitting at a crucial junction. If the loan book growth continues at the rate it is, then we should be seeing a very bright Q4.

  1. The crucial Efficiency measure. This number has also come down a bit and the trend is down for the past three quarters.

09/14: 0.76 (Q3 14)
06/14: 0.79 (Q2 14)
03/14: 0.85 (Q1 14)
06/13: 0.69 (Q4 13)

Related to my point above, if the expenses stay relatively flat as they have over the past four quarters, then the increases in the loan book would have trickle down effect on the bottomline, which in turn should bring the efficiency measure down. Is a 65% efficiency measure possible by the end of the year?

  1. In my effort to look for articles on INBK, I found couple very detailed analyses on Seeking Alpha. I know people around here look at these articles with scepticism but these INBK articles by Cabeza Howe are fairly detailed.

The following article dated 28 Sept is worth a read:
http://seekingalpha.com/article/2526395-first-internet-banco…

Crazy as it may sound, Howe’s Q3 2014 predictions for EPS and Net Income were right on the money. I 'm going to read his analysis in detail again. Howe is projecting Q4 2014 EPS of $0.39 to end FY14 with a EPS above $1.00.

Anyways, I hope this post provided some extra color.

As usual, I must say that I 'm no investment advisor, so please PLEASE do your own research. I share what I learn to discuss with the esteemed Fools here.

Thanks,

Anirban

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Well, Anirban, you convinced me and I added some INBK today at $16.49.

Anirban, with the research you do you are on your way to be a very, very, successful investor. Congratulations.

Only one thing I’d like to ask about. As I think back on your 10Q type write-ups, they all seem positive. There must be some that you investigate and say “This is a good company but I don’t like the price”, or “It’s not my cup of tea”. If you have some of those it would be helpful to post them too.

For example, I’ve said I love AMZN the company, and I buy everything through them, but the stock is ridiculous for a company that’s not making any money. Or I think PRLB is great. The new CEO is great. But they are at a PE of 45 or 50 (or whatever) and aren’t growing fast enough that I want to wait for them to grow into their valuation. Do you have some like that?

Saul

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"Here is a company that is growing assets at a pace that beats 98% of its peers (bank holding companies with consolidated assets in the $500 million to $1 billion range). Its operating leverage is also coming into play enabling efficiency ratio to be quickly normalized and then decline further more gradually thereafter. As a result, ROAE will likely be at the top of the pack in two years.

Yet the stock is now trading at 74% of book value and 78% tangible book value (as of close of market 9/26/2014). Sellers are continuing to push the stock lower as insiders are buying in. Yep, market the voting machine is casting a resounding SELL vote on the stock now. But sooner or later, market the weighing machine will surely tell us who are really smarter - the sellers who can’t stop pressing the SELL button now or the insider buyers who are growing this company rapidly, methodologically, and profitably."

I’m with you, Anirban. I’m also betting that the insider buyers will win out in this market. Insiders are almost always smarter and win out in the end.

Thank you for the detailed research!

Jim

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Hi Jim,
What is ROAE. I looked it up and found nothing.
Thanks.

Gayle

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Anirban, what’s your feeling about loan quality and the culture of the company with regard to maintaining that quality? The scary thing about young banks is that they can grow their book very rapidly by compromising on loan quality, and nobody will know until years down the road when the next recession hits. You can’t simply extrapolate from current non-performing loan ratios. So culture seems very, very important to the long-term success of the bank.

Do you think it’s this fear that is causing the stock to trade below book value? That the market doesn’t trust the quality of the book?

Neil

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Gayle,

ROAE refers to a company’s average performance over a fiscal year. It is usually computed by the sum of the equity value at the beginning and end of the year divided by 2.

Investopedia puts it this way:

“A measure of return on average equity can give a more accurate depiction of a company’s corporate profitability, especially in instances where the value of the shareholders’ equity has changed considerably during a fiscal year. In situations where the shareholders’ equity does not change or changes by very little during a fiscal year, the ROE and ROAE numbers should be identical, or at least similar.”

Hope this helps.

Jim

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Yet the stock is now trading at 74% of book value and 78% tangible book value (as of close of market 9/26/2014).

I think perhaps you have to look at all the valuation metrics.
Comparing to BOFI

BOFI PE 18.1
EPS Growth Proj. 25% '15 and 32% '16
Price to Book 2.75 (on Yahoo!)

INBK PE 20.1
EPS Growth Proj. 78% '15 N/A for '16
Price to Book .74

What happened in 2013 for them to have $1.51 in earnings, special one time gains?

INBK may just be in the “prove it to me” phase.

BOFI’s estimate for 2015 has been cut $0.55 cents since the HR Block delay. Maybe there was some bad data in the est from 90 days ago-$5.37
http://finance.yahoo.com/q/ae?s=bofi&ql=1

And I echo all the others here, Great Work!!
JT

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BOFI PE 18.1
EPS Growth Proj. 25% '15 and 32% '16
Price to Book 2.75 (on Yahoo!)

INBK PE 20.1
EPS Growth Proj. 78% '15 N/A for '16
Price to Book .74

I kind of forgot to finish the point I making…

If INBK Price to Book came up to 1.25 quickly, it’s PE then would seem
way out of line for a bank. If it’s earnings do grow nicely these various metrics should even out a bit more.

Anyway, just musing about…

JT

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Hi Neil,

You asked

what’s your feeling about loan quality and the culture of the company with regard to maintaining that quality? The scary thing about young banks is that they can grow their book very rapidly by compromising on loan quality, and nobody will know until years down the road when the next recession hits. You can’t simply extrapolate from current non-performing loan ratios. So culture seems very, very important to the long-term success of the bank.

Do you think it’s this fear that is causing the stock to trade below book value? That the market doesn’t trust the quality of the book?

I think their loan quality is very very good. Their charge offs are very low, various asset quality measures are very good and steadily improving, and most of their clients have very high credit scores. I get the feeling that they have a conservative tinge to their lending. They talked about this in their May annual meeting.

With respect to the book value, I 'm going to only be able to speculate. Given the growth in earnings one would expect the stock price to move up solidly, but this is more of a slow mover because its a small micro-cap (less than $100M market cap), recently moved from OTC to NASDAQ, and not too many people follow it. I believe all of two analysts are following this story.

As I foreshadowed in my post above, I think Q4 will be the real deal. As with any investment, its hard to know the future. So, I 'm just looking at what’s available, i.e., the trend and trying to figure out what might happen. The costs seem to have more or less stabilised but the net interest income is still growing, and it should blow past the cost next quarter. If that does happen, it will be accompanied with shrinking of the efficiency measures. INBK’s efficiency measures right now are not good and certainly not one that we should expect from a branchless operation. BOFI’s efficiency measure is around the 45% mark, a good bank like Well Fargo is somewhere in the mid 50%s, so INBK’s at the 75% mark is not good. That just means that they are spending a lot to earn their monies, but the trend seems to suggest that the efficiency measures are moving in the right direction and should get to more normal 60% zone soon.

So to conclude, I think INBK is one of those cases where there is market mis-pricing. I 'm generally of the opinion that the market is very good at pricing equities, and mis-pricing occurs infrequently. It typically occurs when an equity is under-followed and the story is not out there. INBK is one of those cases, IMO.

Anirban

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Thanks, Anirban, it’s much appreciated.

Neil

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Hi Saul,

Thanks for your kind words. I have learnt a lot from your posts and it has immensely helped me in how I invest. Thank you very much for that.

You asked:
Only one thing I’d like to ask about. As I think back on your 10Q type write-ups, they all seem positive. There must be some that you investigate and say “This is a good company but I don’t like the price”, or “It’s not my cup of tea”. If you have some of those it would be helpful to post them too.

I agree, most of my 10-K write-ups have a positive feel to them. That’s because I only write them after they have pass through my first layer of filter (e.g., does the company have a solid opportunity to do well in its area of business? does the company have competitive advantages or a moat? are earnings growing fast enough? turnaround opportunity? has it been recommended by the TMF? etc). Only if I get a yes on a majority of my initial cut questions do I spend them time doing the research.

However, that said, I don’t invest in all of those that I investigate and sometimes its because of price or some other reason. The examples I can think of are PAC (a Mexican airport group), Stamps.com, and Mistras Group.

With respect to PAC, I really like their toll booth style business. Its a steady grower but the growth is directly related to passenger traffic growth so you can only expect so much. This one really needs a decent entry price, and one wants to get in a the lower end of its PE range. I posted it here:
http://discussion.fool.com/grupo-aeroportuario-del-pac237fico-pa…
and concluded by saying it appears PAC is trading close to the high end of its PE range. Over a longer time horizon though, I would expect traffic to grow and the revenues to grow along with it. This can be a solid investment for the long run. I just wish it can be snagged up at a slightly better price. This one is still on my watch list. I 'm waiting for a good entry point, if it arrive I will likely buy it.

Stamps.com intrigued me. I saw it in TMF’s stocks 2015 and it was subsequently picked up by Inside Value. I actually like many of the Inside Value recommendations. The original stamps.com post is here:
http://discussion.fool.com/stampscom-stmp-10k-notes-31441277.asp…
I concluded this one by saying that revenue growth just doesn’t seem to be going anywhere.
Q1 14 versus Q1 13 revenue growth was 3.7%, and Q2 14 versus Q2 13 revenue growth was 6.8%. So, the trend is not looking good. I would like to understand what is going on with respect to revenue growth.
Stamps.com is still on my buy watch list but it way down the list and its likely never going to become a buy for me.

Mistras Group as you know was a Hidden Gems recommendations from a month or two back. I thought the space they worked in seemed interesting. I have been looking to add some industrial type businesses into my portfolio so I looked at it. This seemed like a turnaround story so I have so far stayed away from it. I don’t think I posted the MG notes here. I can post it if others on this board are interested in discussing it.

Anirban

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Anirban,

With regards to Mexican airports/toll booth type stocks, have you looked at ASR? AT some point I owned ASR, PAC and OMAB (all old HG or GG recs).

I think ASR seemed the best of the bunch at the time (in terms of growth prospects).

Haven’t looked at them in years thought.

-Brandon

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FWIW, TMFpencils is a fan of STMP.

He posted a writeup on his board several months ago. I didn’t look back for the original write-up thread, but here’s a follow-up:

http://discussion.fool.com/stmp-david-31387706.aspx?sort=whole#3…

-Brandon

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Hi Brandon,

With regards to Mexican airports/toll booth type stocks, have you looked at ASR? AT some point I owned ASR, PAC and OMAB (all old HG or GG recs)

I briefly looked at ASR. Its one of the HG favourites and has been recommended multiple times over there. When I looked at these about two weeks or so ago, I thought both ASR and PAC were trading at the higher end of their PE ranges. If someone is willing to take an infinite time horizon similar to many of the TMF services, then sure these appeared surely to do well over the very very long time window. At the same time, if I want it to handily beat the index over the next 3-years or so, then the entry price with these airports would matter a lot.

What do you think about these Mexican airports?

Anirban

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Hi Brandon,

If you have access to HG, then this thread is worth reading:
http://discussion.fool.com/1008/anyone-still-here-31408590.aspx?..

Robert Tichy knows a lot about this business and he has followed it closely for sometime.
http://my.fool.com/profile/rtichy/activity.aspx

STMP is an interesting business and it operates in a hard to enter domain, printing stamps online for UPSC. We can think of this as a moat for the business. At the same time though, the business is tied to the prospects of UPSC versus other parcel delivery mechanisms (UPS, FedEx) etc. STMP got into the alternative parcel delivery mechanisms with the purchase of ShipStation and I think it recently bought another company in the same area.

I think this is an interesting recommendation that probably merits a closer look.

Have you been looking into this one?

Anirban

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Oh. I thought you were referring to another company. How stupid of me. I really need to get a dictionary on all these acronyms.
Thanks for the lesson.
Gayle

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Hi Anirban,

Sadly, I don’t do much ‘original research’ or ‘deep dives’ into companies (though I really appreciate all the information that you and other active researchers post), so I don’t have much to contribute to this discussion. I read TMF and the boards, scan financials cursorily and make decisions with that information. My current subs are RB, SA, and SN, and I try not to stray far from those recs.

That being said, against my better judgment I have invested in a few companies that aren’t recommended by RB or SA, and the more I follow this board, the more that list has grown. It is a bit of a problem for me because once a ‘hot’ stock drops off the radar (ie AFOP), then I don’t have the ‘coverage’ I once had and often flounder about what to do…so I keep my non-TMF positions small. (Should I sell AFOP and buy SKX or SWKS?)

That being said, I did open a small position in STMP a few months ago based on stocks 2015 and TMFPencils write-ups. I think the business model has promise and ability to scale. I am also a sucker for buying companies after a price cut, which STMP had earlier this year. Finally, I liked the low PE for a potential growth stock. I am trying to buy growth at a reasonable price. In recent years I have been burned on many high PE RB stocks that get whacked when growth decelerates or fails to materialize. I also have high regard for TMFPencils and think that I will have access to some of his analysis of STMP for years to come.

Regarding PAC, ASR, and OMAB, I sold them all years ago when I let my HG sub lapse and GG dissolved. Since then I haven’t thought much about them until you posted your thoughts on PAC. A blast from the past for me. I made a nice quick profit back then, but looks like they have all doubled or tripled since I sold. At first glance I agree, it would be nicer to enter after a pullback (which is what I had done when I purchased them in 2008).

Best,
Brandon

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