Executive Summary / Key Takeaways

• Midland States Bancorp is undergoing a strategic pivot, actively de-risking its loan portfolio by exiting non-core consumer lending partnerships (GreenSky, LendingPoint) and tightening standards in specialty finance and equipment leasing, aiming to improve its credit profile despite recent deterioration and significant charge-offs.
• The company faces near-term financial pressure, evidenced by a net income decline in 2024 driven by a substantial increase in the provision for credit losses and an expected goodwill impairment charge of $135M-$154M in Q1 2025, highlighting challenges in certain loan segments and macroeconomic sensitivity.
• Despite credit headwinds, MSBI's core community banking and wealth management segments show resilience and growth potential, supported by investments in technology, business development in key markets like St. Louis and Chicago, and initiatives like the Banking-as-a-Service platform focused on deposit gathering.
• Strengthening capital ratios is a key priority, supported by higher core profitability (excluding one-time charges), slower anticipated balance sheet growth post-portfolio exits, and strategic capital actions like the 2022 preferred stock offering.
• Key factors for investors to monitor include the successful execution of the credit portfolio de-risking, remediation of identified material weaknesses in internal controls, progress in attracting low-cost deposits through BaaS and traditional channels, and the impact of the economic environment on asset quality.

Midland States Bancorp, Inc. (NASDAQ: MSBI) stands as a diversified financial holding company rooted in over 140 years of community banking history. Since its origins in 1881, the company has expanded its footprint across Illinois and into Missouri, evolving through strategic acquisitions and organic growth initiatives. This journey has shaped MSBI into a regional player offering a blend of traditional commercial and consumer banking, alongside specialized services like equipment financing and wealth management. The company's strategic approach emphasizes a "high-tech, high-touch" model, aiming to deliver a superior customer experience while maintaining a strong foundation in relationship banking and enterprise risk management.

The banking industry landscape is intensely competitive, with MSBI vying for market share against a diverse set of players. Direct competitors include larger regional banks like Wintrust Financial Corporation (WTFC), Old National Bancorp (ONB), and Huntington Bancshares Incorporated (HBAN), which often possess greater scale and more advanced digital capabilities. These rivals compete fiercely for deposits, loans, and fee-based services across overlapping geographic markets. MSBI also faces increasing pressure from non-bank financial institutions and fintech companies, which offer specialized digital solutions that can challenge traditional banking models and potentially erode market share in areas like consumer lending and payments.

MSBI's competitive positioning is anchored in its deep community ties and localized expertise, particularly in its core Illinois markets and expanding presence in St. Louis and the Chicago MSA. This local focus fosters strong customer relationships and loyalty, providing a degree of insulation from larger, less personalized competitors. The company has also invested in its technology platform, aiming to leverage digital tools to enhance efficiency and customer service, although it acknowledges needing to close gaps with more technologically advanced rivals like HBAN and WTFC. A key technological initiative is the development of a Banking-as-a-Service (BaaS) platform, intended to create new revenue streams and, importantly, attract low-cost deposits by partnering with fintech companies. This strategic move leverages past experience with fintech relationships like GreenSky and Synctera, positioning BaaS as a potential long-term catalyst for growth.

Financial Performance and Operational Dynamics

MSBI's financial performance in 2024 reflected a challenging operating environment, marked by a notable decrease in net income to $38.0 million, down from $61.2 million in 2023 (restated). This decline was primarily driven by a significant increase in the provision for credit losses, which surged to $120.3 million in 2024 from $82.6 million in 2023. The increase in provision expense was a direct consequence of strategic actions taken to address credit quality issues, including substantial charge-offs in the specialty finance and equipment financing portfolios ($25.3 million and $28.8 million, respectively) and charge-offs related to the sale and transfer of non-core consumer loan portfolios ($17.3 million from LendingPoint sale, $35.0 million from GreenSky transfer to held for sale).

Net interest income also saw a decrease in 2024, falling to $236.3 million from $248.8 million in 2023. While the yield on earning assets increased to 6.03% in 2024 from 5.75% in 2023, reflecting the rising rate environment, this was more than offset by a decrease in average earning assets, particularly a $452.0 million reduction in average loans. Interest expense climbed to $189.8 million from $168.3 million, as the cost of interest-bearing liabilities rose to 3.31% from 2.87%, indicating increased funding costs in a competitive deposit market.

Noninterest income provided a partial offset, increasing to $138.7 million in 2024 from $114.8 million in 2023. This growth was fueled by a $3.1 million increase in wealth management revenue (reaching $28.7 million), a $3.2 million increase in company-owned life insurance income (totaling $7.7 million), and a substantial $12.8 million increase in credit enhancement income (totaling $61.0 million), primarily due to reimbursements from the LendingPoint program. Noninterest expense rose to $207.9 million from $193.1 million, reflecting increased data processing costs ($28.2 million), higher loan collection expenses ($5.9 million), and significant impairments on OREO ($5.6 million) and leased assets ($7.9 million), partially offset by lower loan servicing fees ($12.9 million) as third-party portfolios declined.

The balance sheet reflected these dynamics, with total assets decreasing to $7.51 billion at December 31, 2024, from $7.79 billion at December 31, 2023. Total loans decreased by $936.0 million, or 15.3%, driven by the strategic reduction in consumer loans ($740.5 million decrease) and the equipment financing portfolio ($196.1 million decrease). Total deposits also decreased by $112.3 million, to $6.20 billion, with a notable increase in brokered time deposits ($259.5 million) offsetting declines in lower-cost categories, indicating a shift in funding mix. Liquidity remained supported by a mix of cash, securities, and borrowing capacity, totaling an estimated $2.62 billion at year-end 2024. Shareholders equity saw a slight decrease to $710.8 million, impacted by dividends and share repurchases, but the company maintained capital ratios well above regulatory minimums, meeting the "well-capitalized" definition.

Strategic Initiatives and Outlook

MSBI's strategic response to the evolving credit and economic landscape is centered on de-risking the balance sheet and leveraging existing strengths. A major initiative involves the accelerated exit from non-core consumer lending partnerships. Following the cessation of originations through GreenSky and LendingPoint in Q4 2023, the company sold its LendingPoint portfolio in Q4 2024 and participation interests in a significant portion of the GreenSky portfolio in April 2025. These actions, while contributing to near-term charge-offs and provision expense, are intended to reduce exposure to higher-risk segments and improve the overall credit profile. Management has also tightened credit standards and ceased new construction loan originations in the Specialty Finance Group, based on a strategic review prompted by elevated credit risk.

Looking ahead, the company's outlook is shaped by these strategic adjustments and expectations for the broader economy. Management anticipates a challenging operating environment, potentially including a mild recession, but believes the company is well-positioned due to its diversified portfolio and limited exposure to highly vulnerable sectors like urban office and subprime consumer loans. The goal for 2023 was to keep the net interest margin relatively stable, a target influenced by the interplay of rising asset yields and increasing funding costs. While specific quantitative guidance for loan growth in 2025 is not provided due to economic uncertainty, the company expects to continue growing its total loans, albeit at a more moderate pace than seen in early 2022, driven by the productivity of its commercial banking teams and growth in Equipment Finance, offsetting the runoff from exited portfolios.

The Banking-as-a-Service initiative remains a key long-term strategic pillar, with a primary focus in 2023 on adding partners that can contribute to deposit gathering. This initiative, built on prior technology investments and fintech experience, is expected to become a positive contributor to deposit gathering and fee income generation starting in 2023 and grow steadily thereafter. In Wealth Management, investments in personnel and platform enhancements are aimed at accelerating organic growth, increasing the client base, and growing fee income. Disciplined expense management is expected to continue, leveraging prior investments in banking talent and technology to keep expense growth below revenue growth and support profitability. Strengthening capital ratios remains a priority, expected to improve through higher profitability and a lower level of balance sheet growth compared to 2022's rapid expansion.

Risks and Challenges

Despite strategic efforts, MSBI faces significant risks and challenges that could impact its investment thesis. Foremost among these are the identified material weaknesses in internal control over financial reporting, specifically related to assessing risks in non-routine transactions, accounting for third-party credit enhancement contracts, and controls over loan data from third-party servicers. These weaknesses led to the restatement of financial statements for prior periods and underscore the need for effective remediation to ensure accurate financial reporting and maintain investor confidence.

Credit risk remains a primary concern, particularly given the recent deterioration in certain portfolios and the uncertain economic outlook. While the company is actively de-risking, the concentration in real estate-secured loans (63.3% of the portfolio) and commercial loans (82.3% of the portfolio) makes it vulnerable to declines in real estate values and adverse changes in the business climate. The expected goodwill impairment charge of $135 million to $154 million in Q1 2025, while non-cash, reflects a significant decline in the assessed value of the Banking reporting unit, triggered by credit quality deterioration and stock price trends, highlighting the impact of these challenges on the company's valuation.

Interest rate fluctuations pose a risk to net interest income, as changes in market rates can impact the repricing of assets and liabilities. While management aims for margin stability, significant shifts could compress margins. Liquidity risk is also present, as the company relies on deposits and borrowings to fund operations and growth. Competition for deposits, particularly in a rising rate environment, could increase funding costs or necessitate reliance on potentially more expensive wholesale funding. Operational risks, including cybersecurity threats and reliance on third-party systems, could lead to financial losses or reputational damage. Finally, regulatory compliance remains a constant challenge, with potential legislative or regulatory changes increasing costs or restricting business activities.

Conclusion

Midland States Bancorp is at a critical juncture, actively addressing credit quality challenges that have impacted recent financial performance and necessitated a restatement of prior periods. The strategic decision to exit non-core consumer lending and tighten standards in other specialized portfolios is a necessary step to de-risk the balance sheet and build a more resilient foundation. While this process has resulted in significant near-term charges and an expected goodwill impairment, it aligns with the long-term goal of improving asset quality and capital strength.

The underlying franchise, particularly the core community banking operations and the growing wealth management business, continues to demonstrate organic growth potential. Investments in technology and targeted business development in higher-growth markets are key enablers of this growth, with the Banking-as-a-Service initiative offering a promising avenue for future deposit gathering and fee income. For investors, the success of MSBI's strategic pivot hinges on the effective execution of its de-risking plan, the remediation of internal control weaknesses, and the ability to attract stable, low-cost funding in a competitive environment. Monitoring credit performance trends, progress in the BaaS initiative, and the trajectory of capital ratios will be crucial indicators of whether MSBI can successfully navigate the current headwinds and unlock long-term value.