Provident Financial Services Inc (PFS) 2010 Q2 法說會逐字稿

Good morning and welcome to the Provident Financial Services second-quarter 2010 earnings conference call. All participants will be in a listen-only mode. (Operator Instructions)

After today's presentation, there will be an opportunity for you to ask questions. (Operator Instructions) Please note this event is being recorded.

I would now like to turn the conference over to Christopher Martin. Please go ahead, sir.

Thank you. Good morning, everyone. Before we discuss our second-quarter 2010 results, we ask that you please review our standard caution as to any forward-looking statements that may be made during today's review of our financial performance.

Our full disclosure and disclaimer can be found in the text of our earnings release, and you may also obtain a copy of that in all of our SEC filings by accessing our website, www.Providentnj.com, or by calling our Investor Relations Department at 201-915-5344.

For today's discussion, I am joined with Tom Lyons, our CFO. Our earnings of $12.9 million, or $0.23 a share, represented an improvement of more than double of the same quarter last year. And actually, we are pleased with these results, as our net interest income before the loan-loss provision increased $9 million from the same quarter last year.

Our earnings and margin improvement continues to be driven by the funding areas, specifically the cost of deposits. During the quarter, we further reduced our pricing and level of CDs, while sustaining the growth in our core deposits, which now represent 71.9% of total deposits.

Core deposits increased $76.2 million during the quarter, while time deposits declined $130.5 million, with many of these exiting CD customers being single-product based.

We continue to price deposits lower, albeit at a declining rate as we approach implied floors, but expect that a more competitive deposit pricing will ensue as banks replace borrowings that will be assessed by the FDIC under the recently enacted financial legislation.

And on a related note, we are continuing our analysis of the Dodd-Frank Wall Street Reform and Consumer Protection Act. The voluminous regulations that will eventually follow will take several government agencies months to promulgate, and even longer for financial institutions and their regulators to fully understand and implement.

We continually strive to build relationships and keep reaching to increase our share of our customers' business. Overall, our cost of deposits has declined to 1.13% from 1.93% in the second quarter of 2009. The improvement in our efficiency ratio can be traced to improved net interest income and our relentless pursuit of lower costs.

We remain well-capitalized as currently defined by our regulators and are pleased to continue to pay our quarterly cash dividend of $0.11 a share, which was not reduced or suspended during the period of economic turmoil.

As you all know, the challenges of this recession, however, continue to stress many businesses and our customers. Asset quality remains the primary focus and challenge we navigate the myriad changes on the horizon. And despite not being a TARP participant and recipient, we are not immune from the issues affecting the New Jersey and US economies.

The provision for loan losses of $9 million was an increase of $3.2 million from the same period in 2009, and continues to represent our view that the New Jersey economy is stagnant and the markets in general remain under stress. Evidence of this ongoing strain can be found in the residential loan portfolio, where we continue to experience delinquencies from prime borrowers, as these households continue to struggle with protracted unemployment and reduced real estate values.

We have strengthened our outreach to residential borrowers with preemptive collection efforts in an attempt to minimize future delinquencies.

Some early signs of stabilization in residential home valuations have appeared during the first half of the year. While some of our competitors continue to be aggressive in their credit offerings and large money center banks reenter the market, we are seeing our share of lending opportunities that meet our credit standards. Our loan pipeline remains steady as we attempt to keep up with normal loan amortization and prepayments.

We realized increases of $116.6 million in commercial and multifamily mortgages in the first half of 2010, and this asset class has performed well for us so far. Conversely, our construction loan portfolio has decreased over $52 million since the first of the year and now represents approximately 3.3% of the total loan portfolio.

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

With that, I would like Tom to take us through some of our second-quarter results. Tom?

Thank you, Chris, and good morning, everyone. Net income for the second quarter of 2010 was $12.9 million, or $0.23 per share, compared to $11.2 million, or $0.20 per share, for the first quarter of 2010. Compared with the trailing quarter, second-quarter results benefited from a $1.4 million increase in net interest income, driven by reductions in the cost of funds, as we continue to emphasize core deposit generation and favorably repriced interest-bearing liabilities.

In addition, the Company realized an $831,000 decrease in non-interest expense compared with the trailing quarter, as expense management remains an area of strategic focus.

At June 30, 2010, tangible common equity to tangible assets increased to 8.58%. The Company's regulatory capital ratio strengthened further, and the Company and The Bank continue to be well-capitalized under current regulatory guidelines.

During the second quarter, total loans were largely unchanged, increasing by a net of $362,000, as growth in the commercial lending categories was nearly offset by net reductions in retail loans resulting from a lack of qualified consumer demand.

Commercial mortgage loans, including multifamily loans, increased $72 million, while commercial loans, consisting of middle-market and business banking loans, increased $12 million. However construction loans decreased $37 million, residential mortgage loans decreased $34 million, and consumer loans decreased $12 million during the quarter due to amortization, sales, and payoffs.

The Company originated and sold $9.3 million of 30-year fixed-rate residential mortgage loans during the quarter. Total commercial loans, consisting of commercial real estate, construction, and C&I loans, increased to 53.8% of total loans at June 30, 2010 compared to 52.7% at March 31.

Nonperforming loans increased to $93.2 million at June 30 from $82.6 million at March 31. The increase in nonperforming loans was largely due to a $5.8 million increase in nonperforming commercial loans and a $5.6 million increase in nonperforming residential mortgage loans. The increase in nonperforming commercial loans was primarily attributable to the addition of a $4.8 million relationship with a healthcare practitioner and related entities, which is secured by medical facilities and related business assets.

In addition, nonperforming multifamily loans increased $1.2 million versus the trailing quarter due to the addition of one loan secured by two properties, and nonperforming commercial mortgage loans increased $985,000 compared to the trailing quarter.

Partially offsetting these increases, nonperforming construction loans decreased $2.6 million as a result of a foreclosure and related partial charge-off, and nonperforming consumer loans decreased to $285,000.

The provision for loan losses was unchanged from the trailing quarter at $9 million. The allowance for loan losses increased to 1.42% of total loans at June 30 compared to 1.36% at March 31, 2010.

Net charge-offs during the second quarter were $6.5 million, representing an annualized 61 basis points of average loans. This compares with net charge-offs of $10.8 million in the trailing quarter. Net charge-offs for the second quarter of 2010 were comprised of $1.7 million of marine loans, $1.4 million of commercial loans, $1.4 million of construction loans, $1.3 million of residential mortgage loans, and $609,000 of commercial mortgage loans.

Total nonperforming assets, consisting of nonperforming loans and foreclosed assets, totaled $97.9 million or 1.43% of total assets at June 30, compared to $87.6 million or 1.29% of total assets at March 31.

Nonperforming loans as a percentage of total loans were 2.15% at June 30 compared to 1.91% at March 31. Total delinquencies, however, decreased to $106 million or 2.49% of the portfolio June 30 compared to $120 million or 2.81% of the portfolio at March 31.

30-to-89-day delinquencies decreased to $33.2 million or 0.77% of loans at June 30 from $56.4 million or 1.3% of loans at March 31. Early-stage delinquencies as a percentage of related outstandings decreased in all loan categories.

Our net interest margin increased 13 basis points to 3.48% during the second quarter compared to 3.35% in the trailing quarter. The increase in the margin was due primarily to a decrease of 13 basis points in the average cost of interest-bearing liabilities to 1.51% for the second quarter.

The average cost of interest-bearing deposits and borrowings each decreased to 13 basis points sequentially.

The Company projects some continued net interest margin improvement in the third quarter of 2010, principally as a result of continued favorable repricing of interest-bearing liabilities and further deployment of excess liquidity.

Our total deposits increased $22 million during the second quarter of 2010. Core deposits, consisting of demand deposit accounts and savings accounts, increased $76 million or 2.2%, while time deposits decreased $55 million.

The company remains focused on cultivating core deposit relationships, while strategically permitting the runoff of certain higher-cost single-service time deposits. At quarter end, core deposits as a percentage of total deposits were 71.9% compared to 70.6% at March 31.

Non-interest income was $8 million in both the second and first quarters of 2010. The Company recorded a $170,000 other-than-temporary-impairment charge on a private label mortgage-backed security in the second quarter compared with $817,000 of net securities gains recognized in the previous quarter.

Income from bank-owned life insurance increased $430,000 versus the trailing quarter as a result of proceeds paid on a policy. Other income increased $305,000 over the trailing quarter as a result of increased volume of loan sales and an increase in related gains, and fee income increased $216,000 as result of increases in loan and deposit fees.

Non-interest expense decreased $831,000 to $33.9 million during the second quarter of 2010. The decrease in non-interest expense was due primarily to a $413,000 decrease in other non-interest expense resulting from reduced foreclosed assets expense and a $364,000 decrease in FDIC insurance expense, a $253,000 decrease in compensation and benefits expense, and a $222,000 decrease in net occupancy expense, partially offset by $546,000 increase in advertising expense versus the trailing quarter.

The efficiency ratio improved to 56.4% for the second quarter of 2010 compared with 59.1% in the trailing quarter, and the ratio of annualized operating expenses to average assets improved to 2.02% for the second quarter from 2.07% in the previous quarter.

The Company recorded income tax expense of $4.2 million for the second quarter of 2010 compared with $3.8 million in the trailing quarter. The Company's effective tax rate declined slightly to 24.7% for the second quarter of 2010 compared with 25.5% for the previous quarter as a result of the increase in tax exempt income from bank-owned life insurance. The Company currently projects an effective tax rate of 25% for the balance of 2010, based on current estimates of 2010 taxable income.

And with that, we would be pleased to take your questions.

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

Chris, I wondered if -- just a couple of things here. First, you guys underprovided a little bit in the first quarter relative to charge-offs, and in the second quarter overprovided a little bit. How should we be thinking about coverage in future quarters?

I think some minimal continued reserve build is probably not unreasonable to expect, Mark. The underprovision, as you put it, in the first quarter was really a result of some significant charge-offs on loans that had been 100% specifically reserved for. I think given current economic conditions and where the risk ratings have gone on some of the loan portfolio delinquencies, it's reasonable to expect we would maintain leverage ratios similar to what we see now.

Okay. And then on your -- you mentioned briefly about deposit costs, and there's clearly some high deposit ratepayers in your market. Is that going to prevent you guys from dropping deposit rates much more?

We don't see that happening. There are going to be people who are paying up that have to to fund some of their operations. With our commercial growth that we are still seeing in the multifamily world, we're getting a lot more deposits that are core-related. So we still think that we don't have to raise our rates, and we will do that dragging our feet going forward.

Okay. And then next, you mentioned your relentless pursuit of lower costs. Do you guys have any goals for the efficiency ratio or nonoperating expenses?

Well, I think right now we're at about 2.02 on operating expenses. We would like that to be in the ones, certainly. We also look at efficiency ratio. We've always said 55 would be a number that would be another summit for us to accomplish and then go from there.

So as long as the credit and this economy requires us to [have] people in the collection world and adding structure, we're going to keep at that number, being around 55; that's our goal. If asset quality continues, we might be able to look at shrinkage on the other side. We would like to think that the economy recovers and then we'll be adding people to bring in more loans as we get the opportunity.

The last question I had was about M&A. We started to see some activity in New England. Is the M&A market likely, in your opinion, to thaw in New Jersey sometime soon?

It depends on what your definition of sometime soon is. I think there's still a lot of the shakeout probably happening from the regulatory changes that are going to come down the pike and the burdens that that will provide the smaller institutions that will have -- with struggling with the operating expenses attached to that compliance.

I think it will get a little bit better as we -- I mean, more open in the M&A world. So yes, I think it will get a little bit more open and we probably would be involved or at least get to see every opportunity available.

Great, thank you.

Rick Weiss, Janney Montgomery Scott.

Good morning. Actually, I would like to follow up on one of Mark's questions about the deposit pricing, which actually I didn't really understand what he was driving at.

But I was wondering if you could talk to me about -- are you trying to extend the liabilities -- the terms on the liability right now in the current environment? And how are you with respect to interest-rate sensitivity? How are you positioned?

I'll take the first part, Mark. We have been, at times, taking advantage through our borrowings to extend and match fund whenever possible. So we have been able to do some longer-term plumbing in this environment, that we think to be and we have modeled it out to be relatively inexpensive and locked in spread when it comes to funding some commercial lending.

Even though we could fund it cheaper by core deposits, you have to really look at your balance sheet, and sometimes the best thing to do is to position for the long-term.

In regards to the other comment in the way of costs, Tom, do you have any other numbers related to his question?

Well, I think with respect to interest-rate sensitivity, we are slightly positively gapped on a one-year basis. The interest rate risk sensitivity analysis falls with our acceptable parameters in all cases.

But as Chris said, we do look to selectively extend liabilities when the pricing makes sense. And certainly, if we can match fund any loans and lock in a spread, we will continue to do that.

We do have a fair amount of liabilities for pricing over the next six months, about $488 million in the third quarter and another $337 million in the fourth quarter. Should (inaudible) favorable repricing of about 50 basis points on those.

Okay, thank you very much.

Jason O'Donnell, Boenning & Scattergood.

Good morning. I apologize if I missed it, but could you just give us some detail around the expected impact of Reg E in the back half of the year, or at least the total number of overdraft fees currently at risk?

Jason, we're actively working to secure those opt-ins, especially from the customers who most actively use the product. We're having a great deal of success with the people that we have been able to reach; over 70% of the people we have gotten to speak to have opted in. Our initial estimates were about $2.4 million in the back half of the year. We are down to about $1.5 million at this point and we expect that to continue to come in further.

Okay, great. And then I guess just moving on to credit, I'm wondering if you could just give us an update on the size of the marine portfolio, given that that continues to be charged off pretty regularly. I'm just wondering what the strategy there is at this point, and are you going to continue to run that to zero or would you consider liquidating that?

It's currently about $75 million. And maybe it's because it's the summer months, but the delinquencies have slowed up and there have been a couple that have been cured. I don't know if it will carry forward when we get to November.

But we are not going to certainly grow that portfolio. We are letting it run off. If the economy recovers and there's an opportunity for us to move that at a decent rate, we would look at that. But right now, that's not really in the cards.

I could add to that the current 90-plus delinquent indirect marine loans are $1 million -- $1.4 million. It's 435 -- I'm sorry, seven loans.

Okay, perfect. And then I guess finally, just switching to expenses, could you just go back to the other operating expense line? I'm wondering how much in OREO expenses are in there versus the prior quarter?

OREO expenses were about $70,000 only for the quarter. Last quarter was closer to $600,000. We had a fairly substantial write-down on a foreclosed asset that was recognized last quarter.

Thanks very much.

Collyn Gilbert, Stifel Nicolaus.

Thanks, good morning, guys. Well, Rick doesn't know what Mark was getting at, and I don't what Rick was getting at, so this is all a great group of sell-side analysts you have here.

Anyway, just moving to the question part of it, what rates are you guys seeing on some of the multifamily products that you are doing, as well as the traditional CRE products?

We can say that it is getting to areas that we get a little concerned in the way of risk-adjusted rates of return. Some -- I certainly know that the agencies are sub-5, which is something that we would never probably go near.

But it's very competitive. Some of our competitors are out there in very low 5's right now. And there is only -- there is very select that we would even go that low in that regard. We do have to price accordingly, but we are challenged. Every time we put out a commitment, there's a few others that will follow up.

We're going to continue to get the personal guarantees we like. We like to get the deposits that are attached to it. That being said, you have to look at -- if you're doing 5 and/or 10 year at let's say 4 7/8, I would question really is that a good investment for us and for shareholders.

Okay, so staying out of the market would be more a function of price than lack of -- necessarily lack of demand?

It would probably be -- of all of the things that we can compete on, price is the only thing that we really can. We're not going to change our credit discipline. But there might be an opportunity that we would be aggressive but not to that level.

We would -- would we exit the market? Well, no, we will be competitive in a lot of our relationships that we have had already, so we have a good following and a good referral base.

Okay, okay, that's helpful. And then just on the expense side, those were good targets that you gave us. Anything in particular that's going to drive that 2% down to a 1% within the expense structure?

As one of the other analysts would say, my parsimonious ways. But I would think that it really is our team here is very focused on the culture change, every being an entrepreneurial spirit, and a line of business reporting and making sure that we are really hitting all those, so we have the proper IRRs for every area.

So the idea of being able to fill gaps get rid of expenses that aren't there, we are continuously doing that. Every contract is being reviewed and we are going to continue to be relentless in that regard.

Great, that's helpful. Okay, thanks. That's all I had.

Damon DelMonte, KBW.

This is actually Timur Braziler with KBW. Just a couple questions for you guys. The first, on the $5.5 million of residential NPLs this quarter, how many loans comprise that balance and was any of that restructurings?

146 loans, and none of that is restructured at this point.

Okay. And would you happen to have the total TDR balance and maybe what that did quarter-over-quarter?

No, we only have one relationship that is currently a TDR. It's about -- it's a little under $600,000, if I remember correctly, and that's consistent with prior quarter.

Okay, great. And the only other question I had -- and I think I missed this when you were talking on your prepared remarks -- but what did 30-to-89 days past due do in this quarter?

Quarter-to-quarter, down 41% or $23 million, so pretty nice decrease.

Obviously, we are hoping that we are hitting a place where there won't be as many people falling into the hopper and we will have to work through the rest. That will always -- I think everybody is going to have those numbers come in a little bit. We're hoping that will continue and get to a trendline that will go the right direction.

Okay. What drove much of that early-stage delinquency decline? Is there a particular category?

Actually, every category is down. Residential is down $6.6 million. Commercial mortgage down $7.1 million. Commercial is down almost $9 million. Consumer is down $1.8 million.

Perfect, thanks a lot.

Matthew Kelly, Sterne, Agee.

Hi, guys. Just looking at the sequential $5 million increase in nonperforming loans, but can you give us a sense of the resolutions, cures, exits, your ability to sell notes? Give us a sense of what went out the door in that balance.

Well, I think there's a combination of everything, and it's really just getting your hands on it. You have to work through the process. And each one is kind of unique when you go through it. There could be mezz debt that has got to get remedied. We also have participants that you have to get everybody to agree to on some of the larger loans.

There's really no one-size-fits-all. I mean, there's an opportunity to basically sell some notes, and almost at par; you just have to get to it through the legal channels to make sure all the documentation is there. And we look at all those, though there's no fire sale going on here, because we didn't do -- fully leverage 100% financing on many of these items.

So even though there's been some downdraft in the market, maybe some of these still have the potential that we don't need to sell them at $0.30 on the dollar.

Okay. And what is the dollar amount of total resolutions during the quarter -- that gets us to the net $5 million increase?

Unfortunately, Matt, I don't have the total resolutions. I can only echo Chris's comments, that we've seen it come from a variety of areas.

Okay, got you. And then just turning to the margin, you mentioned that 3Q should look solid as liabilities costs come down. But if you are looking at those origination yields in the 5% range versus a 5.40% average yield in the portfolio, would it be fair to assume that that could be an inflection point if the rate environment remains kind of static?

I think we are getting there. I think the margin expansion will be tempered for the next quarter or two, and then we might be at that point. Because we are approaching those implied floors and liabilities, and we will start to see our earning assets yields decrease a bit.

Okay, got you. All right, thank you.

This does conclude our question-and-answer session. I would now like to turn the conference over to Mr. Martin for any closing remarks.

We thank you for your attention on the call and we look forward to talking to you in our next quarter. Hopefully, things will continue on the trendlines that we have, and we appreciate your interest in PFS. Thank you very much.

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