Provident Financial Services Inc (PFS) 2015 Q2 法說會逐字稿

Good day, and welcome to the Provident Financial second quarter earnings conference call. (Operator instructions) Please note this event is being recorded.

I would now like to turn the conference over to Mr. Leonard Gleason. Please go ahead, Mr. Gleason.

Thank you, Kerry. Good morning, ladies and gentlemen. Thank you for joining us on this beautiful summer morning. The presenters for our second quarter earnings call are Chris Martin, Chairman, President and CEO; and Tom Lyons, Executive Vice President and CFO.

Before beginning their review of our financial results, we ask that you please take note of our standard caution as to any forward-looking statements that may be made during the course of today's call. Our full disclaimer can be found in the text of this morning's earnings release, which may be accessed on the Investor Relations page of our website, www.providentnj.com.

Now, I'm pleased to introduce Chris Martin, who will offer his perspective on our second quarter's financial results. Chris?

Thanks, Len, and good morning, everyone.

Provident achieved several high-water marks during the second quarter with record revenues, pretax pre-provision earnings, net income of $21.8 million, and earnings per share of $0.35. Our return on average assets was 1.01%, and return on average tangible equity was 11.78%. The increase in total revenue was due to strong growth in wealth management income, loan swap fees, deposit service fees, gains on sales on investments, and stable net interest income.

Net interest margin pressure from the prolonged low-interest rate environment continued, with greater originations of variable and floating-rate assets contributing to a decrease in our NIM to 3.17%. As labor market and general economic conditions continue to improve, we think it's prudent to forego some current income in order to best position ourselves for an eventual increase in rates. Tom will discuss this in more detail, but we anticipate a relatively stable NIM for the remainder of 2015.

Year to date, loan originations have been approximately 75% variable rate, and our portfolio was 55% adjustable, with 27% of loans having floating rates at June 30th.

The impact of lower asset yields on net interest income has been largely offset by consistent loan portfolio growth and further mitigated by impressive growth in non-interest-bearing deposits. Our loan pipeline stands at $1.1 billion, another record level for us, with pipeline rates somewhat higher than they were at the end of Q1.

Total loans increased $223 million or 7% annualized for the first half of 2015. The commercial component of the loan portfolio now represents 71% of outstandings. Our Pennsylvania lending teams in the Lehigh Valley and Bucks regions have increasing pipelines, and we've added new relationship managers to support this growth as well as increased volume we've seen within our loan production areas.

C&I lending has been and will continue to be a primary driver of non-interest-bearing deposit growth, along with corporate cash management, and our ABL group has been steadily increasing their portfolio.

Overall asset quality continues to improve. Total net charge-offs were 17 basis points this quarter, including the resolution of a large substandard credit during the quarter. Total nonperforming assets of $54 million are down $18 million or 25% from the same period last year.

On the funding side, deposit growth was solid, with core deposits growing by a net $51 million for the year to date, while non-interest-bearing deposits increased by $92 million or 18% annualized for the first half.

CD runoff has slowed as we protect relationships where appropriate, and core deposits now represent 86% of total deposits. Competition has been raising CD and money market rates to combat loan-to-deposit imbalances, which continues to challenge our deposit retention in these categories.

While we are playing defense on CD pricing, we're able to manage our balance sheet towards a more neutral interest rate risk position by focusing on commercial operating accounts and utilizing longer-duration borrowings, rather than short-term money market accounts or CDs. We have no immediate concerns regarding our loan-to-deposit ratio, as we have ample sources of liquidity.

Noninterest income improvement of $7 million during the quarter versus the same period last year was driven primarily by the MDE wealth management acquisition, which closed in April, accompanied by several other areas previously mentioned.

Prudent expense management is always paramount at Provident. Our efficiency ratio for the second quarter was 58.1%, lower than the prior quarter. We expect this ratio to remain near this level going forward. And we strive to keep our non-revenue-producing FTEs at a minimal level, and it is becoming more difficult in the present regulatory environment.

Faced with technology investment, preparations for reaching the $10 billion asset level, cyber protection and information security expenses, our operational support areas are under continuous review for cost efficiencies and enhanced use of technology to meet our customer needs. We also continue to manage other discretionary expenses but will invest in revenue-producing people and activities to augment volume and market opportunities.

With regard to M&A -- we closed on the MDE acquisition, and its performance for the quarter met our expectations. We celebrated the first anniversary of the Team Capital acquisition on May 30th and are happy to report that our entry into the Pennsylvania market has also met our expectations and added many talented professionals to our organization. Our approach to future acquisitions, whether whole-bank or wealth-related, will continue to be patient, disciplined and opportunistic, and must meet our strategic objectives and enhance the value of the combined franchise.

Our capital levels remain strong, and we will continue to look to invest in long-term stockholder value and enhancing opportunities.

With that, I will turn it over to Tom for some more color.

Thank you, Chris, and good morning, everyone.

As Chris noted, our net income for the second quarter was a record $21.8 million, a 10% increase from $19.8 million for the trailing quarter. Earnings per share improved to $0.35, compared with $0.32 for the trailing quarter. The increase in earnings was driven by increased noninterest income, which grew to 22% of revenues. Wealth management fees doubled to $5 million with the closing of the MDE acquisition on April 1st.

Swap income increased by $2 million versus the trailing quarter, as we originated more synthetically floating rate assets in anticipation of future interest rate increases. Fee income increased by $1 million as a result of increased deposit, debit card, and annuity sales income.

Loans grew by $121 million on average during the quarter, or 8% annualized, with multifamily construction and commercial real estate loans leading the way. Despite a $90 million increase in average earning assets, net interest income decreased by $300,000 versus the trailing quarter, to $61.7 million, as the origination and purchase of floating-rate and short-duration assets in anticipation of a rising-rate environment reduced yields.

Funding costs remained stable, and average non-interest-bearing deposits increased 16% annualized. However, the net interest margin decreased 7 basis points, to 3.17%.

We provided $1.1 million for loan losses this quarter, compared with $600,000 in the prior quarter, as allowance requirements from loan growth exceeded the benefit of continued improvement in asset quality. Nonperforming loans decreased $5 million from the trailing quarter to $46 million or 0.73% of total loans.

Total delinquencies fell to just over 1% of loans, and the weighted average risk rating of the portfolio improved. Net charge-offs for the quarter increased to a still-low $2.6 million, or an annualized 17 basis points of average loans.

The allowance for loan losses to total loans decreased to 95 basis points at June 30th from 1% at March 31st. However, the allowance coverage of nonperforming loans increased to 129%. Excluding acquired loans recorded at fair value, the allowance was 1.03% of loans.

Noninterest expense increased $2.7 million versus the trailing quarter, to $46.1 million, including nonrecurring expense of $413,000 related to the MDE acquisition. The balance of the increase was primarily attributable to costs of the continuing MDE operations, the stock-based portion of annual directors' fees, and increased advertising.

Income tax expense was $10 million compared with $8 million for the trailing quarter, and our effective tax rate increased slightly, to 30.6% from 29.8%. We currently project an effective tax rate of approximately 30% for the remainder of 2015.

That concludes our prepared remarks, and we'd be happy to respond to your questions.

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

The first question I had, Tom, on expenses -- do you feel like that sort of $47.5 million, $46 million -- I'm sorry, $45.5 million of operating expenses for the quarter is a decent run rate going forward with MDE, and any synergies that you might extract there?

There's a couple of nonrecurring type items in the quarter, Mark. We have the annual directors' comp in the form of stock-based compensation that gets recognized all in a lump in the second quarter each year. And then there's some transaction-related charges. So if you back those out, that was about $1.2 million combined, I figure about $45 million for a run rate.

Okay. Great.

Then, secondly, could you talk a little bit about your plan for growing deposits, and perhaps share with us your deposit campaigns, any deposit campaigns that you have ongoing?

Mark, this is Chris. We certainly look at our Business Advantage Checking product, which is something we're really promoting. It's probably the -- we think it is the best-in-class out there. And we've had very good success of that of late, even in the Pennsylvania markets, and even in our mature markets in New Jersey. So that's something we're leading with and doing very well with promotion. And certainly, our calling lists are going out there to people that we have banked for years and never really connected on an operating basis.

We aren't really in the CD or high-rate money market, Mark, [things] that are going on in advertising. And certainly, some of our competitors are using that to get some core deposits. Certainly, our C&I business that we've been doing has made those relationships a lot more sticky and more manageable for us.

I'd echo Chris's comments on the pursuit of additional C&I and non-interest-bearing deposits. You saw we had significant growth in non-interest-bearing for the quarter. Cash back has performed well for us as well. You can see that reflected in some of the additional fee income for the quarter. Deposit fees and ATM and debit card fees were up combined about $850,000 in Q2 versus the trailing quarter. So we're seeing some nice traction there.

Okay.

Then, lastly, loan level swap income was elevated for you guys this quarter and for a lot of banks. Where do you think that might settle out, based on what you're seeing in the third quarter, sort of a normalized, more normal level for that?

At this point, I think it's tough to call a normalized level. As you noted, it is a volatile item. It was $121,000 in the first quarter for us and all the way up to $2.1 million in the second quarter. It really depends on borrower demand and suitability for the product. It is a business we seek out; we like the floating-rate asset at this point in the cycle. We will continue to do that. But that was a very good performance for the quarter.

But thus far in the third quarter, you're seeing pretty good activity?

A little bit lighter so far.

Okay. Thank you.

David Bishop, Drexel Hamilton.

I was wondering if you could comment -- you spoke a little bit about adding the additional floating-rate loans. Just curious what you're seeing in terms of new production with yields versus what might be rolling off.

Pipeline yield is about 360, Dave. I guess the portfolio was around 408, if I remember correctly.

I'm sorry, was 360?

360, yes.

Got you.

Then, in terms of the impact related to the investments in terms of back office as you approach the $10 billion mark -- do you think most of that is in the run rate, or do you see additional need for incremental expense adds as you approach that threshold?

We build this -- it's not [Lego] necessarily, but I think we're spending a little time in systems to do certainly some more credit risk type events and we're certainly looking at stress testing as we move forward. I think it's something that will be building up over a period. We certainly don't see organically that $10 billion is there within two quarters or even a year, as we estimated. So absent an acquisition of a material nature, we still have a little bit of time.

On the other hand, we are already building, we're also planning, we are adding maybe staff or reassigning staff to that area. So I think it's something that is going to be a little bit more -- that's why we have to look at our operations to make sure we can maybe reduce some costs or utilize technologies a little bit better on the back end.

Got it.

Then one final one -- I think you mentioned the elevated charge-off -- maybe some detail about that one substandard loan that was charged down?

I guess that was just to note that the reason for the bump was really related to one specific credit. There was a charge of about $1.1 million, $1.2 million on a loan that has been resolved at this point.

Great, thank you.

Matthew Kelley, Piper Jaffray.

First question, I was wondering -- just get an update -- what were the AUM balances at the end of the quarter, and where was that in the first quarter? And what's the outlook for assets under management in the wealth and advisory business going forward?

As of June 30th, Beacon has $2.4 billion under management. When we did MDE, it was an additional --

It was $100 million higher. I think it was $2.5 million.

$2.5 million. So not really terrible in the way of runoff. We had another small piece we did with Suffolk National Bank out on Long Island. That's been holding up very well, considering it's a new market for us. So we're pretty pleased with that.

Organic growth in that space is -- it's always challenging. It is more of referral than it is just go out there and sell wealth. Getting loans is a lot different business than that. And I think we have a good strategy going forward to make sure the business and what we offer our clients has multipronged approaches to investment management, but also handholding and being able to pick up a phone and talk to somebody, versus some of the large firms.

Okay. Got it.

And in the securities book -- it's been trickling down in terms of total balances. Is that going to continue in the back half of the year, or is it going to start to stabilize around $1.5 billion?

I would expect it to stabilize. It's really been a question of suitability of investment options and opportunities on the loan portfolio side instead.

Okay. Got you. Got you.

And then, when you're thinking about the provision and reserve coverage, remind us what you're looking at for incremental provisioning on new C&I and new CRE growth into the portfolio. What type of provisions are allocated to new balance growth?

I think it worked out to about 90 basis points blended all in on current production.

Okay, got it. So there's probably some additional room there to bring down the overall coverage ratio on originated loans? (Multiple speakers)?

I think so. I think it could probably work down -- if credit quality continues along the same glide path, could work down to middle to high 80s ultimately, which would translate, if you excluded the acquired book, to low 90s.

Okay, got it.

And then, the billion -- I think there was a $1.1 billion pipeline you had mentioned -- how does that break down between Pennsylvania versus New Jersey? And maybe just talk about what you've been experiencing in terms of yields and growth rates for commercial loans in your two markets.

I can give you some pipeline information first. Pennsylvania is about $53 million of the $1.1 billion, but growing from $35 million in Q1, so we're starting to pick up a little bit more in the Pennsylvania market. That's just Pennsylvania. We also had some activity in West New Jersey as a result of the Team acquisition, which is built into there as well.

The rate, as I said earlier, overall is about 360. Expected pull-through on that $1.1 billion is probably about close to 60%, so maybe roughly $580 million is what we expect to close out of that $1.1 billion.

Okay, got it.

And last question -- just get a little more detail in the competitive environment that you're seeing for deposit rates -- you guys have really solid core deposit balance growth. The cash-back checking had some success this quarter. Talk a little bit more about just what you're seeing for promotional offerings in the money market and CDs and how that's changed over the last three to six months in your markets.

Well, certainly some smaller institutions that are suffering with deposit growth. We did see a small competitor had a 10-month CD at 1.40%. Some of our other competitors of similar size have money market rates of the same level; that is if they bring in a one-year relationship and do some other behaviors. And they're advertising them pretty heavily.

So I think those are the two areas. The CD play is going on a little bit more, as people are just trying to get some deposit balances as the loan volumes have started to pick up. Again, we have been playing defense. We actually will deal with it on a one-to-one basis if there's a need to be aggressive. We've been pretty successful in the municipal market, and we also think that borrowing for four years, it makes a lot more sense than putting on a CD for 10 months at a higher rate.

Got it. Okay, thank you.

Thank you.

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

Thank you very much for everybody being on the call.

As we move into the second half of 2015, and hopefully greater certainty regarding Fed action on interest rates, I'm confident in our ability to deliver solid financial results will continue.

We appreciate the support of our stockholders and our employees' dedication to their clients, customers and their communities. And we thank you and look forward to speaking with you on our next call.

Thank you very much. Have a great day.