Provident Financial Services Inc (PFS) 2010 Q1 法說會逐字稿

Good morning and welcome to the Provident Financial Services first quarter 2010 earnings conference call. All participants will be in a listen-only mode. (Operator Instructions). Please note, this event is being recorded. I would now like to turn the conference over to Chris Martin. Sir, please go ahead.

Thank you. Good morning, everyone. Before we discuss our first-quarter 2010 results, we ask that you please review our standard caution to any forward-looking statements that may be made during the review of our financial performance of Provident Financial Services Inc. Our full disclosure and disclaimer can be found in the text of our earnings release and you can obtain a copy of that and all of our SEC filings by accessing our website, www.ProvidentNJ.com or by calling our investor relations, area 201-915-5344. For today's discussion, I am joined by Tom Lyons, our CFO.

Our earnings at $11.2 million or $0.20 per share represented an improvement of 25% over the same quarter last year on an operating basis, excluding the goodwill impairment taken in our first quarter of 2009. We are pleased with these results as our net interest income before the loan loss provision increased 15.6% from same quarter last year.

The provision for loan losses of $9 million was an increase of $3.2 million from the same period in 2009 and represents our view that the New Jersey economy and the markets in general remain under some stress. Evidence of this strain can be found in the residential loan portfolio where we continue to experience delinquencies from prime borrowers as we did not originate any sub prime mortgages, as these borrowers struggled with loss of employment and declining home values.

We are, however, seeing some early signs of stabilization in the residential home valuation. The consumer though has been severely impacted by this historic recession, hence normalcy will be dramatically different in a recovery.

Competition is returning to the marketplace, however, we will not change our loan underwriting practices and credit discipline to win some business. There are many commercial lending opportunities we have passed on as discussed as the economy has made the credit analysis problematic. Despite these challenges, we have net increases of $44.9 million in commercial and multifamily mortgages, an asset class that has performed well for us.

The residential mortgage demand has been primarily in the 30-year fixed category which we continue to sell at origination to minimize our interest rate risk. Consumer lending which consists primarily of home equity and HELOCs has been sluggish as most applicants have very little equity in their homes, complicated by higher levels of debt to income.

The main driver of our earnings and margin improvement has been in the funding area, specifically the cost of deposits. We continue to reduce the pricing and level of CDs while growing our core deposits which now represents 70.7% of our total deposits.

Time deposits declined $76 million or 5% in the quarter with many of these customers being single product based. We continually strive to build relationships and keep reaching for our share of the customer's wallet.

Overall our cost of deposits has declined to 1.26% from 2.06% in the first quarter of 2009. The improvement in our efficiency ratio can be traced to improved net interest income while effectively managing costs.

With the increased burden of higher FDIC insurance expenses for the foreseeable future, we will continue to seek out ways to optimize our operations and capacity. Increased expenses on foreclosed assets of $423,000 during the quarter also impacted our expense line.

We are pleased to continue to pay our quarterly cash dividend of $0.11 which we did not cut or suspend during the period of economic turmoil. We remain well-capitalized as currently defined by our regulators.

The challenge of this historic recession has stressed many businesses and our customers. This accompanied by major financial regulation reforms pending in Washington may hamper business recovery.

Asset quality remains a primary focus and challenge as we navigate the myriad of changes on the horizon. And despite not being a TARP recipient, we cannot avoid the vortex of issues affecting the New Jersey and US economy. With that as a backdrop, I would like Tom to take us through the details regarding our first quarter results. Tom?

Thank you, Chris; and good morning, everyone. Net income for the first quarter of 2010 was $11.2 million or $0.20 per share as compared to $6.8 million or 0$.12 per share for the fourth quarter of 2009.

Compared with the trailing quarter, first quarter results benefited from a $3.2 million decrease in the provision for loan bosses, a $2.4 million decrease in non-interest expense, $2.2 million increase in net interest income and a $976,000 increase in net interest non-interest income. The March 31, 2010 tangible common equity to tangible assets increased to 8.34%, the Company's regulatory capital ratio strengthened further and the Company and the bank continue to be well capitalized under current regulatory guidelines.

Total investments decreased $74 million during the first quarter to $1.63 billion and represented 24% of total assets at March 31. The investment portfolio consists primarily of agency guaranteed mortgage-backed securities and bank qualified municipal bonds.

The portfolio had a weighted average life of 3.2 years and a duration of 2.8 years at March 31, 2010. The decrease in investments during the quarter was attributable to paydowns on mortgage-backed securities, maturities and municipal and agency obligations and sales of $18.1 million of mortgage-backed securities as part of the Company's interest rate risk management process which resulted in net gains of $817,000 for the quarter.

During the quarter, total loans decreased $57 million. Commercial mortgage loans including multifamily loans increased $45 million, however, commercial loans consisting of middle market and business banking loans decreased $52 million which included the repayment of a low-yielding $25 million LIBOR base line of credit and reductions in shared national credits.

In addition, residential mortgage loans decreased $25 million during the first quarter due to amortization sales and payoffs. Construction loans also decreased $16 million during the first quarter and consumer loans decreased $9 million.

Non-performing loans decreased to $82.6 million at March 31, 2010 from $84.5 million at December 31. The decrease in non-performing loans was largely attributable to a $5.2 million charge-off against a collateral-dependent, impaired commercial mortgage loan that was fully covered by a specific valuation allowance at December 31, 2009.

In addition, non-performing consumer loans decreased $489,000 versus the trailing quarter on net charge-offs of $624,000. Non-performing commercial loans decreased $397,000 as a result of charge-offs of $4.6 million, including $4.3 million charged against two loans which were identified as impaired and which carried specific reserve allocations of $2.3 million at December 31, 2009.

Reductions in non-performing commercial loans were largely offset by the addition of a $2.9 million relationship secured by first mortgages on two commercial properties with an estimated loan to value ratio of 79% and a $1.2 million unsecured loan with personal guarantees. Non-performing construction loans decreased $151,000 as a result of paydowns from a shared national credit which is current but classified as non-performing in accordance with regulatory guidance.

Partially offsetting these decreases, non-performing residential mortgage loans increased $4.1 million during the quarter as borrowers continue to be adversely affected by an extended period of high levels of unemployment. The provision for loan losses during the quarter was $9 million compared to $12.2 million for the trailing quarter.

The allowance for loan losses was 1.36% of total loans at March 31 compared to 1.39% at December 31, 2009. Net charge-offs during the first quarter were $10.8 million with $9.5 million of that total attributable to three loan relationships that had previously been identified as impaired and for which $7.4 million in specific reserves had been previously allocated. This compares with net charge-offs of $7.1 million in the trailing quarter.

Total non-performing assets consisting of non-performing loans and foreclosed assets totaled $87.6 million or 1.29% of total assets at March 31 compared to $90.9 million or 1.33% of total assets at year-end. Non-performing loans as a percentage of total loans were 1.91% at March 31 compared to 1.93% at December 31.

Total delinquencies increased to $115 million or 2.66% of the portfolio at March 31 compared to $103 million or 2.35% of the portfolio at December 31. 30 to 89 day delinquencies increased to $56.4 million or 1.3% of loans at March 31 from $46 million or 1.05% of loans at December 31. Early-stage delinquencies increased in the commercial mortgage, commercial and residential loan categories while decreasing for construction and consumer loans.

The net interest margin increased 19 basis points to 3.35% during the first quarter compared to 3.16% in the trailing quarter. The increase in the margin was due primarily to a decrease of 19 basis points in the average cost of interest-bearing liabilities to 1.64% for the first quarter.

The average cost of interest-bearing deposits decreased 21 basis points while the average cost of borrowings decreased 7 basis points sequentially. The decrease in the cost of funds reflected declining market rates and favorable repricing of timed deposits.

Total deposits decreased $14 million during the first quarter of 2010. Core deposits, consisting of some demand deposits and savings accounts, increased $62 million or 1.3% while timed deposits decreased $76 million.

The Company remains focused on cultivating core deposit relationships while strategically permitting the runoff of certain higher-cost, single-service timed deposits. At quarter end, core deposits as a percentage of total deposits were 70.6% compared to 69.2% in the trailing quarter.

Non-interest income was $8 million for the first quarter compared to $7 million in the trailing quarter. The Company reported $817,000 in net securities gains during the first quarter 2010 compared with net gains of $24,000 in the trailing quarter.

The Company also recognized net other than temporary impairment charges of $529,000 related to two private-label mortgage-backed securities in the fourth quarter of 2009. Partially offsetting these improvements, fee income decreased $172,000 compared with the trailing quarter as a result of fewer overdraft occurrences. And other income decreased $139,000 due to a lower volume of loan sales and a decrease in related gains.

Non-interest expense decreased $2.4 million to $34.8 million during the first quarter of 2010. The decrease in non-interest expense was due primarily to a $1.9 million decrease in FDIC insurance expense, $1.3 million in costs associated with the consolidation and pending sale of three branch locations and a bank-owned building that were reported in 2009 and a $474,000 reduction in advertising expense versus the trailing quarter.

The Company currently projects full-year 2010 FDIC insurance expense of approximately $8.3 million. These decreases in non-interest expense were partially offset by a $1.3 million increase in compensation and benefits expense reflecting normal merit increases, seasonally higher employer payroll taxes and higher stock-based compensation costs, primarily attributable to an increase in the market price of the Company's common stock.

The Company recorded income tax expense of $3.8 million for the first quarter of 2010 compared with an income tax benefit of $395,000 in the fourth quarter of 2009. The Company's expected tax rate was 25.5% for the first quarter of 2010 and is projected to remain at that level for the balance of the year based on current estimates of 2010 taxable income.

And with that, we would like to open it up to questions.

(Operator Instructions) Mark Fitzgibbon, Sandler O'Neill.

First question I had for you, you guys have done a nice job cutting costs. Are we approaching the point where you think expenses will start to level off or stabilize?

As you know, we have been constantly looking at our capacity utilization and certainly our management and our structure to make sure that we are getting everything we can out of it. That will continue to go forward. So we still think there's some opportunities. That being said, if we have opportunities to grow revenues and -- at an increment of the expense, we will definitely do that.

Okay and then could you share with us your outlook for the margin over the next quarter or so?

I think we will see some continued modest expansion over the next couple of quarters. We have about $893 million worth of liabilities we're pricing favorably over the next six months based on current rates.

Okay, great. And then lastly, there have been some deals in your market that seem like they made a lot of sense. I guess I'm curious, are you guys in the mix or are you on the sidelines right now for acquisitions?

You are speaking of FDIC deals?

I am speaking of non-FDIC deals.

Well we always get involved in almost everything we look at. (inaudible) we will go through the analysis [if the bill doesn't make sense] and some of these deals have been very accretive to some organizations for us. We didn't see that and so we would move on.

But we do try to keep our fingers on the pulse of what is going on out there and look for opportunities even with a backdrop of where capital areas are and what's going on in Washington on the regulatory front.

Rick Weiss, Janney Montgomery Scott.

Actually two broader questions. One, if you could talk a little bit about the economy; and second, we hear a lot about Governor Christie's new business initiatives. Do you think that will help turn things around in New Jersey?

Well let's take the second part of that first, Rick. The governor and the Legislature are trying to fix a major problem which is probably endemic in the United States, as we tend to spend too much and we don't know how to pay for it. And being the most taxed state in the nation, we have got to stop that.

So I think he is trying and trying to work through these processes and we support him wholeheartedly to try to get this back on square. But there's still a lot of challenges ahead and you can't just move this on a dime.

So we hope for some progress. From the global, I think we still are very cautious on the market. I think we said that several times. It's still -- people are struggling out there. Job losses aren't coming back in full form and so with that -- that's a problem, but if we see some stabilization in the asset valuations, I think that will help at least to get us to be able to jump off at that point.

Okay, Chris, what is your best guess when you think loan demand will pick up?

We are still seeing some volume. The problem is we wouldn't be seeing a heck of a lot of stuff that makes sense to us. Some of our competitors are jumping in with both feet and some of their hands. So we are not going to do that. But if we are looking at the way the market would get better, it would probably be in the third quarter.

Jason O'Donnell, Boenning and Scattergood.

Can you just give us some more detail around why we are seeing a resurgence in stress in residential mortgage loans in your market? Is it due to folks rolling off of unemployment comp or does it have more to do with home price trends in your market continuing to weaken?

Well there's several fronts with that. I think you have again, the job losses on prime borrowers. People probably that were prime were out of work and then they used some of their savings and everything else to stay current and then that runs out if you don't get the job or a spouse may have lost a job.

The debt burdens people have had in the past, I think it's just getting to the rationalization that they can't afford to do what they did three or four years ago. That being said, it takes a while for people to hit that.

And then all of a sudden, it takes a long time to get properties through the cycle in the courts, especially in New Jersey. It takes a long time. I think with the glut of all the things coming down the road, the subprime has maybe even washed out to a degree. We didn't do any of that, but I think the prime borrowers, until we get the asset valuations to get a little bit better, it's going to still be a strain.

The other item I would add is that when we look internally at the way defaults on residential mortgages have tracked versus the employment rate, they appear to lag six to eight months. So even though we saw a little bit of improvement in the unemployment data in the last quarter, we expect that there is going to be a period of time where we don't see that reflected in the residential delinquencies.

That makes a lot of sense. And, Chris, we've talked in the past about the likelihood of seeing an FDIC-assisted deal out of PFS. And you were cautious given the level of competition in your market and I think the distractions that those deals could potentially create. Have your views changed at all here?

Well I think as we said, we will look. The distraction has to make sense to our Company, to our franchise. So for some of these deals that have been going on across the United States, it does make sense to some people.

We don't think that. We're a New Jersey-based company. If it were closer contiguous that made sense to our Company, we would look at it. It will be well competed for.

We have a lot of people in the area that would do that, just like it's tough to keep our margin comparative to three states away where they can have a 4.5% margin. It's very competitive in here. I think it will happen with FDIC opportunities that will show up. But we would still plan on at least giving it a review.

Collyn Gilbert, Stifel Nicolaus.

Can you just elaborate a little bit on when you were talking about some of the dynamics of certain deals you're seeing that's keeping you out of them in terms of competing? And I'm assuming you're talking on the commercial side.

We talking about loans or are we talking about acquisitions?

Sorry, loans, loans, loans.

Again, we are seeing a lot of opportunities. What it is though, the numbers just don't pan out and the cash flows aren't necessarily there. And so for our standpoint, even though maybe if people made it through this market, they will survive long-term. But until we see more stabilization in the economy, we're a little bit cautious.

The demand is not there where it used to be. I think that is something that we hope that as the economy reaches -- finds its bottom and people get a little more confident that we'll see a little bit more volume and then what we're seeing is a lot of pricing and a lot of change to underwriting standards that we don't want to do at this stage. We can play in pricing, but we don't play in credit.

Okay is there any specific area within the commercial segment you're seeing more intense competition versus another?

Multifamily, that's an area especially competitive and maybe a little bit in the C&I world as people are trying to figure out how they're going to put the money to work and if the one to four isn't generating the business, they're going to probably lean toward another business line.

Okay, that's helpful. And then, Tom, just a question -- you guys have done -- kept the loan yield up pretty well. What are some of the dynamics going on there and do you anticipate that to keep moving higher just in terms of the natural flow of the portfolio, taking interest rate off the table for right now?

I'm not sure if I understood what you meant by keeping interest rate off the table.

Meaning -- well obviously if interest rates are going higher, then there's a chance for the portfolio to see loan yields increase. I'm just saying, essentially the components of kind of what's repricing, what's rolling off, what's maturing in the books it's keeping that loan yield up? Is that what's --

Gotcha, yes. In a flat rate environment, the earning asset yield stays fairly stable and around the 479, 480 mark. We do have and have been putting floors on loans for a number of years now. I think there's about 120 basis points between the floors on the loans and the current rates versus the index on the loans we do have floors on (inaudible) about I want to say over $400 million worth of loans with floors.

Okay, that's helpful. And then just one final question. The fact that the provision did not cover net charge-offs this quarter, is that the beginning of a trend or is that more just a function as you guys have indicated there were specific reserves against those loans?

It's really a function of the specific reserves. If you were to gross up those loans, you'd actually be at a 148 coverage to total loans, meaning if you were to treat it as we had not recorded that charge-off in this period. We have actually increased the coverage on the remaining portfolio exclusive of the credits that were 100% reserved.

Okay and is the expectation to continue to increase the coverage until you see improvement?

It's really a balance sheet driven analysis, but I would say it's safe to say until we see improvement overall in delinquency data, get a little more comfort on some of the trends, that we maintain our ratios relative to the balance sheet at levels at about this point.

Damon DelMonte, KBW.

Could you give us a little perspective on your at-risk fees for the Reg E that's getting implemented in July?

Yes, we have about 79,000 accounts that are subject to the opt-in and we are taking steps to reach out to those customers ongoing. Our best guess is the potential exposure there could be up to about $2.7 million on the high end.

Would that be per quarter or for the year? The back half of this year?

That's the full year and it's commencing in the back half of the year.

And then you had mentioned, Tom, that there was going to be roughly $800 million or so of liabilities that would be repricing. What are the average costs on those liabilities right now?

The pickup would be about 55 basis points to current rates.

Great, and then I guess just lastly, just to kind of follow up on the last question about reserve levels and provisions, so you're kind of comfortable with the elevated provision level that we saw this quarter until you guys have more comfort with the overall trend in the market. Is that accurate?

I think a better way to express it would be that we are comfortable with the coverage ratios to total loans and to non-performing loans. So depending on how the balance sheet looks, the provision would react accordingly.

Matthew Kelley, Sterne, Agee.

Chris, when you were giving a little bit of an overview there of the dynamics in commercial loan pricing, you said that multifamily is competitive, C&I was getting competitive. But what about commercial real estate? Wonder if we can get an update on your thoughts on the maturities default risk that still lies in front of us and how that is going to play out for community banks like yourself?

I think everybody has been pontificating and predicting that for the last what, two years? The commercial real estate portfolio has probably been our best performing portfolio. That goes back to the credit that we do and the work and the people our customers that we do deal with.

Absent the fact that we think there might be a little problem if this economy continues to struggle, but we haven't seen it yet. We're not getting a heck of a lot of growth in the commercial real estate side, but it's not an area that we don't feel uncomfortable with, but we always look at exposures and making sure we're not over-obligating to any one sector and/or piece of the business.

So we have yet to see that to be a problem. We're not seeing a heck of a lot of deals. There are out there more of the multifamily that we're having an opportunity as some of the larger banks are still distracted. We are getting an opportunity to reach the people because we are true relationships. We do talk to them, they get quick answers, they can talk to the heads of the organization. So I think the high touch is winning that business.

Okay, all right. And actually a question for Tom. Any impact from the Freddie buyouts in Q2 on the MBS side?

Nothing material based on the securities that we hold.

Ross Haberman, Haberman Fund.

Chris, could you talk about competition on the deposit as well as the loan side and are you beginning to raise your longer term deposits to lock in rates yet?

We have not been very competitive on the rates and I'm sure my retail group would be very happy if we started to get more competitive. But we are letting a lot of the single relationships run away. We're not being that competitive in the CD front.

We've been very successful in growing the core and the relationship, especially through the commercial lending that we have been doing. We're getting a lot of non-interest-bearing and a lot of checking accounts which are certainly a good core base for us to continue to build.

And that's where we are spending a lot of our attention. We can certainly raise our rates and generate deposits, but at this point, why do that when it is tough to generate loans on the other side? So we are just trying to really get more relationships, definitely core type, and we're not really chasing CDs.

Now there are competitive rates out there. I know that there's -- one of the companies has a 2% rate for a CD for six months. That's very aggressive. We don't know why, but we really can't concern ourselves with that.

On the loan side, we price our one to four consumer business kind of where the market runs and we hope that we can get that business by being in touch with everybody. We do sell all of our 30-year and we have been and we will continue to do that in the near term.

But it has been obviously slow with the market and the consumers retrenched and there's not a lot of people going out there in the market and buying homes. But hopefully the spring and all the snow, that will get people to get out and maybe look at opportunities and that will help the market.

We have no further questions. This concludes the question-and-answer session for today's conference. I will now turn the floor back over to our presenters for any closing remarks.

We thank you for your attention. We hope to speak to you next quarter and have as a positive result as we did this quarter. Thank you very much.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.