Executive Summary / Key Takeaways

• Specialized Model Resilience: Merchants Bancorp operates a highly specialized "originate-to-sell" model focused on government-backed multi-family, healthcare, residential, and SBA loans, complemented by a robust mortgage warehousing segment. This strategy, underpinned by sophisticated financial engineering and agency licenses, aims for lower charge-offs and higher shareholder returns.
• Credit Quality Headwinds & Proactive Risk Management: The company faced significant credit quality challenges in Q2 2025, with a 432% increase in provision for credit losses primarily due to multi-family property value declines and suspected mortgage fraud. However, MBIN has proactively implemented substantial credit protection arrangements totaling $3.7 billion in loans, with incremental coverage of 13-14%, and increased its allowance for credit losses.
• Strategic Capital and Liquidity: Despite a decrease in total shareholders' equity due to preferred stock redemptions, MBIN maintains strong capital ratios and substantial liquidity, including $5.0 billion in unused borrowing capacity. Core deposits grew by 22% to $11.4 billion, now representing 90% of total deposits, significantly reducing reliance on brokered deposits.
• Operational Outperformance: The Mortgage Warehousing segment demonstrated exceptional growth, with loan funding volume increasing 49% in Q2 and H1 2025, significantly outpacing industry averages. This highlights MBIN's operational efficiency and competitive strength in a key segment.
• Regulatory Alignment: Merchants Bank entered into a Memorandum of Understanding (MOU) with regulators, agreeing to maintain capital thresholds and manage asset concentrations. Management asserts the Bank already exceeds these levels, indicating a commitment to sound regulatory practices.

Setting the Stage: A Niche Powerhouse in Real Estate Finance

Merchants Bancorp, founded in 1990 and headquartered in Carmel, Indiana, has evolved into a diversified bank holding company with a distinct strategic focus. The company's core business model revolves around funding low-risk, government-program-eligible multi-family, residential, and SBA loans under an "originate-to-sell" framework. This approach is strategically complemented by retaining adjustable-rate loans for investment, a deliberate choice designed to mitigate interest rate risk.

The company's history reflects a journey of strategic capital expansion and diversification, beginning in 2019 with significant preferred stock issuances that fueled rapid asset growth. This foundation enabled MBIN to specialize in niche real estate and construction lending, particularly in affordable housing and healthcare financing. This specialization, combined with its "originate-to-sell" model, aims to achieve lower-than-industry charge-offs and a reduced expense base, ultimately maximizing net income and delivering superior shareholder returns.

MBIN's operational and financial engineering capabilities serve as its key technological differentiators. The company leverages its licenses with Fannie Mae (FNMA), Freddie Mac (FMCC), and FHA to provide "custom beginning-to-end financing solutions" for multi-family and healthcare facilities. This integrated syndication platform for low-income housing tax credit and debt funds streamlines complex transactions, offering a unique value proposition to sponsors. Furthermore, MBIN employs sophisticated derivative instruments, including interest rate swaps, put options, interest rate floors, and credit default swaps, to actively manage interest rate and credit risk exposures. These tools enable the company to hedge against market fluctuations and protect asset values, contributing to its risk-adjusted returns.

In the broader banking landscape, MBIN occupies a regional and niche-focused position. While it may not possess the sheer scale of direct competitors like JPMorgan Chase (JPM), Bank of America (BAC), Wells Fargo (WFC), or PNC Financial Services Group (PNC), its specialized expertise provides a competitive edge. MBIN's Multi-family Mortgage Banking segment is recognized as one of the top-ranked agency affordable lenders and a significant Ginnie Mae servicer in the country. This specialized focus allows MBIN to target underserved markets more effectively, potentially leading to superior margins in these segments.

However, MBIN's smaller scale presents vulnerabilities, including potential dependencies on real estate cycles and a need for continuous innovation to keep pace with larger rivals' digital advancements. Industry trends, such as the growing demand for infrastructure financing driven by AI and electrification, present new revenue opportunities for MBIN's specialized lending. Its ability to adapt and capitalize on these trends will be crucial for sustained growth, particularly as it faces intense competition from larger banks with stronger revenue growth and higher profitability margins.

Operational Excellence and Strategic Segments

Merchants Bancorp operates through three primary segments: Multi-family Mortgage Banking, Mortgage Warehousing, and Banking, each contributing uniquely to the company's diversified income streams and strategic synergies.

The Multi-family Mortgage Banking segment is central to MBIN's "originate-to-sell" model. It originates and services government-sponsored mortgages for multi-family and healthcare facilities, and acts as a fully integrated syndicator of low-income housing tax credit and debt funds. For the three months ended June 30, 2025, this segment reported net income of $9.3 million, a 3% increase year-over-year, driven by a $9.0 million increase in gain on sale of loans and a $6.5 million increase in syndication and asset management fees. Total originated and acquired loan volume in this segment increased by 33% to $1.4 billion in Q2 2025. As of June 30, 2025, the total servicing portfolio, primarily managed by this segment, had an unpaid principal balance of $31.0 billion, a significant source of noninterest income and deposits.

The Mortgage Warehousing segment provides crucial liquidity to non-depository financial institutions by funding agency-eligible residential loans from origination to sale, typically within 30 days. This segment demonstrated exceptional operational performance, with loan funding volume increasing by 49% to $16.3 billion in Q2 2025, significantly outpacing the estimated 28% industry increase in single-family residential loan volumes. Net income for this segment rose 3% to $23.0 million in Q2 2025, reflecting an increase in other noninterest income, despite higher noninterest expense from credit risk transfer premiums. This outperformance underscores MBIN's competitive strength and efficiency in this high-volume, short-duration business.

The Banking segment offers a broad array of financial products and services, including retail, commercial, agricultural, and SBA lending, primarily in Indiana. This segment has experienced significant growth over the past three years, diversifying MBIN's customer and borrower base. However, for Q2 2025, the Banking segment's net income decreased significantly by 72% to $14.6 million, primarily due to an increased provision for credit losses.

These segments are not isolated but operate with strong synergies. The Banking segment funds loans for the Multi-family Mortgage Banking and Mortgage Warehousing segments and provides Ginnie Mae custodial services. Low-income tax credit syndication and debt fund offerings complement multi-family lending activities. Furthermore, Mortgage Warehousing generates leads for Correspondent Lending within the Banking segment, while Merchants Mortgage acts as a risk mitigant by providing a platform to sell or refinance underlying collateral.

Financial Performance: Navigating Headwinds with Strategic Adjustments

Merchants Bancorp's financial performance in the second quarter of 2025 reflects a period of strategic adjustments amidst notable credit quality challenges. Net income for Q2 2025 decreased by $38.4 million, or 50%, to $38.0 million compared to Q2 2024. This decline was primarily driven by a substantial $43.1 million, or 432%, increase in the provision for credit losses. The increase in provision was largely attributed to estimated declines in multi-family property values, following new appraisals, and ongoing investigations into mortgage fraud.

The company's net interest margin (NIM) also saw a compression, decreasing by 16 basis points to 2.83% in Q2 2025 from 2.99% in Q2 2024. This was influenced by a shift in business mix, with growth in highly profitable but lower-margin loans held for sale (predominantly warehouse loans) while other higher-margin loans receivable balances contracted. Total noninterest expense increased by $27.0 million, or 54%, in Q2 2025. This rise was fueled by a $15.2 million increase in salaries and employee benefits, including $5.8 million for new production staff, and a $7.1 million increase in other expenses related to taxes, insurance, receiver expenses, and legal fees for nonperforming loan collateral preservation. Credit risk transfer premium expenses also rose by $2.5 million due to recent credit default swaps.

Despite these headwinds, MBIN demonstrated resilience in certain areas. Noninterest income increased by $19.1 million, or 61%, in Q2 2025, partially offsetting the impact of higher provisions and expenses. This was supported by a $12.2 million increase in gain on sale of loans and a $6.5 million increase in syndication and asset management fees. The company's efficiency ratio, however, rose to 43.16% in Q2 2025 from 31.59% in Q2 2024, with the aforementioned expenses negatively impacting it by 941 basis points.

On the balance sheet, total assets increased by 2% to $19.1 billion at June 30, 2025, compared to December 31, 2024. Loans receivable, net of allowance for credit losses, grew by 1% to $10.4 billion, primarily driven by a 28% increase in mortgage warehouse repurchase agreements and a 5% increase in multi-family financing loans. Notably, core deposits surged by 22% to $11.4 billion, representing 90% of total deposits—the highest level since March 2022. Concurrently, brokered deposits were strategically reduced by 50% to $1.3 billion, significantly improving funding stability.

Asset quality remains a key focus. The allowance for credit losses on loans (ACL-Loans) increased by $7.4 million, or 9%, to $91.8 million at June 30, 2025. Loans classified as substandard rose to $417.7 million from $317.3 million at year-end 2024, following enhanced collateral assessments. However, loans in the Special Mention category decreased to $171.5 million from $380.0 million, suggesting a subsiding trend in new criticized loan classifications. Total nonperforming loans also decreased to $251.5 million, or 2.39% of total loans, from $279.7 million, or 2.68%, at December 31, 2024. The ACL-Loans as a percentage of nonperforming loans improved to 37% from 30%, reflecting both a decrease in nonperforming loans and an increase in the allowance.

Capital Strength and Regulatory Landscape

Merchants Bancorp maintains a robust capital position, crucial for supporting its growth objectives and navigating regulatory requirements. As of June 30, 2025, the company reported strong capital ratios, with Total Capital to risk-weighted assets at 13.40% and Common Equity Tier I Capital to risk-weighted assets at 9.50%, both comfortably above regulatory minimums.

Total shareholders' equity decreased by $58.7 million, or 3%, to $2.2 billion at June 30, 2025, compared to December 31, 2024. This was primarily due to the redemption of $125 million of 6.00% Series B Preferred Stock in January 2025 and $29.7 million in common and preferred dividends paid. These were partially offset by $96.2 million in net income during the period. The Series B Preferred Stock redemption also led to the recognition of $4.2 million in original issuance expenses through retained earnings and a $1.2 million excise tax, payable in 2026. This capital optimization strategy, including the issuance of $230 million in 7.62% Series E Preferred Stock in November 2024, demonstrates MBIN's proactive management of its capital structure.

On June 30, 2025, Merchants Bank entered into a confidential Memorandum of Understanding (MOU) with the FDIC and DFI. This agreement requires the Bank to maintain specific capital thresholds, manage asset concentrations, and implement plans to mitigate risk in certain assets. Management has stated that the Bank's capital already exceeds the levels agreed to in the MOU, and it was within asset concentration limits as of the reporting date. While the MOU may limit or delay expansion plans, management does not anticipate a material adverse impact on the company's financial performance or day-to-day operations.

Liquidity remains a significant strength, with $5.0 billion in unused borrowing capacity available from the Federal Home Loan Bank and the Federal Reserve discount window as of June 30, 2025. This represents an increase from $4.3 billion at year-end 2024. The company's liquid assets, including cash, short-term investments, and loans held for sale, combined with its borrowing capacity, totaled $11.9 billion, or 62% of total assets. Uninsured deposits, at $3.1 billion (24% of total Bank deposits), are well-covered by the Federal Reserve Bank of Chicago's line of credit, which alone could fund 106% of these deposits.

Outlook and Investment Implications

Merchants Bancorp's outlook is shaped by its specialized lending model, ongoing risk management efforts, and a dynamic market environment. The company's strategic focus on government-backed loans and an "originate-to-sell" approach is designed to generate consistent noninterest income and manage interest rate risk, with approximately 95% of total loans repricing within three months. The addition of production staff, particularly in the Multi-family Mortgage Banking segment, is expected to elevate future production, gain on sale, and associated expenses, signaling continued investment in growth.

The company's proactive stance on credit risk, evidenced by the $3.7 billion in credit protection arrangements and the upsize of a credit default swap in June 2025, is a critical mitigant against potential losses, especially in the multi-family portfolio. While the recent increase in provision for credit losses and substandard loans is a concern, the decrease in Special Mention loans suggests that the frequency of new credit quality issues may be subsiding. The improved ACL-Loans coverage of nonperforming loans also indicates a strengthening of reserves.

However, investors should closely monitor several key risks. The ongoing investigation into mortgage fraud and potential declines in multi-family property values could lead to further credit loss provisions. The regulatory MOU, while currently met, could impose future constraints on growth or operational flexibility. Furthermore, the competitive landscape, dominated by larger, more diversified banks, necessitates MBIN's continued differentiation through its specialized offerings and efficient execution. While direct quantitative comparisons with all private competitors are challenging to ascertain, MBIN's strong outperformance in warehouse lending volumes against industry averages highlights its operational effectiveness.

The "so what" for investors lies in MBIN's ability to leverage its niche expertise and sophisticated risk management to deliver resilient performance despite market volatility. The company's strong core deposit growth and ample liquidity provide a stable funding base, reducing its reliance on more expensive brokered deposits. Its strategic capital management, including preferred stock redemptions and a shelf registration for future growth, positions it to capitalize on opportunities.

Conclusion

Merchants Bancorp stands as a compelling investment case for those seeking exposure to a specialized financial institution with a proven "originate-to-sell" model and robust risk management capabilities. The company's strategic focus on government-backed multi-family, healthcare, residential, and SBA lending, coupled with its efficient mortgage warehousing operations, provides a differentiated approach in a competitive banking sector. While recent credit quality challenges and increased provisions for credit losses have impacted short-term earnings, MBIN's proactive measures, including substantial credit protection arrangements and enhanced collateral assessments, demonstrate a commitment to mitigating risk.

The company's strong capital base, growing core deposits, and significant liquidity provide a solid foundation for future growth. MBIN's operational outperformance in its Mortgage Warehousing segment, significantly outpacing industry growth, underscores its competitive advantages in execution. As the company continues to optimize its capital structure and invest in production staff, it is strategically positioned to capitalize on its niche market leadership and sophisticated financial engineering. Investors should weigh the potential for continued strong performance in its specialized segments against the ongoing need to manage credit quality and adapt to evolving regulatory and competitive dynamics.