Provident Financial Services Inc (PFS) 2022 Q4 法說會逐字稿

Hello, and welcome to today's Provident Financial Services, Inc. Fourth Quarter Earnings Conference Call. My name is Billy, and I'll be the moderator for today's call. (Operator Instructions) I would now like to pass the conference over to our host, Adriano Duarte, Head of Investor Relations. Please go ahead.

Thank you, Billy. Good morning, everyone, and thank you for joining us for our fourth quarter earnings call. Today's presenters are President and CEO, Tony Labozzetta; and Senior Executive Vice President and Chief Financial Officer, Tom Lyons.

Before beginning the 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 is contained in this morning's earnings release, which has been posted to the Investor Relations page on our website, provident.bank. Now it's my pleasure to introduce Tony Labozzetta, who will offer his perspective on the fourth quarter results. Tony?

Thank you, Adriano, and good morning, everyone. Provident finished the year strong by delivering another solid financial performance in the fourth quarter. We produced record interest income and record non-net interest income, resulting in earnings of $0.66 per share. Our performance was driven by loan growth, the stability of our deposit base that continues to exhibit good betas and sound balance sheet management, all of which resulted in an expansion of our net interest margin to 3.62%.

The expanding net interest margin drove a 4.2% increase in net interest income over the trailing quarter. This resulted in an annualized return on average assets of 1.42% and a return on average tangible equity of 17.51%. Our solid earnings performance continues to positively impact capital, which remains strong and comfortably exceeds well capitalized levels.

As such, our Board of Directors approved a quarterly cash dividend of $0.24 per share, payable on February 24. At Provident, we remain focused on our mission of delivering a best-in-class customer experience and deepening the emotional connections with our customers, thereby creating advocates for life. We believe this is essential to build and retain all of our businesses. Our emphasis is commercial lending. And in the fourth quarter, we closed approximately $574 million of new commercial loans, which increased our production to $2.4 billion for the calendar year.

Our line of credit utilization percentage increased 1% in the fourth quarter to 34%, but still trails our historical average of approximately 40%. Given the rise in interest rates, prepayments decreased 33% to $176 million as compared to the trailing quarter. Of those payoffs, about 50% were due to the sale of the underlying collateral and 14% were associated with loans we chose not to renew. As a result of our production and the reduced levels of prepayments, we grew our commercial loan portfolio, excluding PPP, at an annualized rate of 9.7% for the quarter and 10.1% for the year.

The pull-through in our commercial loan pipeline during the fourth quarter was as expected, and the gross pipeline remained strong at approximately $1.3 billion. The pull-through adjusted pipeline, including loans pending closing, is approximately $714 million, and our projected pipeline rate increased 61 basis points from the last quarter to 6.76%. For the year, we had record commercial loan production and growth, despite a competitive market and rising interest rates. We are also encouraged by the activity that has replenished our pipeline. And while we are mindful of a potential economic slowdown, we expect normal pull-through in the first quarter, which should result in good commercial loan growth.

The stability of our core deposits is a valuable component of our franchise. During the quarter, the average balance of our core deposits increased $76 million or 3.1% annualized. On a spot basis, core deposits decreased $89 million or 3.6% annualized, which we attribute to normal business activity and some outflow of excess liquidity. The total cost of deposits for the quarter increased 32 basis points to 67 basis points. For the fourth quarter, our deposit beta was 26%, while the rising rate cycle to date deposit beta was about 11%.

The stability of our core deposits and relatively good betas combined with the growth in improved yields in our earning assets, particularly commercial loans helped drive an 11 basis point improvement in our net interest margin. Given our moderately asset-sensitive balance sheet, our stable core deposits and our prospective loan growth, we expect the net interest margin to remain stable in the near term.

We continue to focus on building our fee-based businesses. Our insurance agency, Provident Protection Plus, had a solid fourth quarter, with a 4.5% increase in revenue and a 24% increase in operating profit as compared to the same quarter last year. The unfavorable conditions in the financial markets continued into the fourth quarter. And as a result, Beacon Trust experienced a decline in the market value of assets under management and related fee income.

Beacon's fee income decreased $398,000 or 6.5% as compared to the trailing quarter. On a positive note, our team of wealth advisers has successfully retained clients and generated positive net funds flows to Beacon. As we move into 2023, the macroeconomic outlook appears challenging to the industry, specifically liquidity, funding costs and credit quality may come under pressure.

As we move forward and organically build our business lines, we remain conscious of this potential -- of the potential for these market challenges and are committed to strong risk management culture. We will intensify our focus on sectors we believe to pose heightened risk in a period of declining economic conditions. Regarding our previously announced merger with Lakeland Bancorp, our team continues to work diligently towards obtaining stockholder and regulatory approvals necessary to combine our 2 companies into a powerhouse super community bank.

We are excited about this combination, which will enhance our ability to serve our customers and our communities. Business combinations increased anxiety levels in an organization. I am very pleased and impressed with the professionalism and collegiality with which our teams are working towards combining our 2 companies. Provident has accomplished much in 2022, which culminated in strong financial performance and a prospective merger with Lakeland Bancorp.

These achievements cannot be possible without the tireless effort of our talented team. The Board of Directors and I are incredibly thankful to our team for their commitment to our goals and guiding principles. Many thanks to the Provident and Lakeland teams for the incredible amount of effort preparing our 2 companies for a successful combination.

In the new year, we look forward to growing our businesses and integrating the merger with Lakeland Bank, which we believe will create value for all of our stakeholders. With that, I'll turn the call over to Tom for his comments on our financial performance. Tom?

Thank you, Tony, and good morning, everyone. As Tony noted, our net income for the quarter was a record $49 million or $0.66 per diluted share compared with $43.4 million or $0.58 per share for the trailing quarter and $37.3 million or $0.49 per share for the fourth quarter of 2021. Current quarter results included $1.2 million of nontax deductible charges related to our pending merger of Lakeland Bancorp.

Excluding these merger-related charges, pretax pre-provision earnings for the quarter was $70.3 million or an annualized 2.03% of average assets. Revenue totaled $132 million for the quarter on the strength of record net interest income of $114 million. Our net interest margin increased 11 basis points in the trailing quarter to 3.62%. The yield on earning assets improved by 46 basis points versus the trailing quarter, as floating and adjustable rate loans repriced favorably and new loan originations reflected higher market rates.

Meanwhile, increases in funding costs continue to lag the improvement in asset yields, with the average total cost of deposits increasing 32 basis points to 0.67%. This represents deposit basis of 26% for the current quarter and 11% for the rising cycle to date. The average cost of total interest-bearing liabilities increased 46 basis points from the trailing quarter to 1%. These betas were in line with our expectations.

While we believe that our net interest margin is likely at or near its peak, we expect the margin to stabilize in the 3.50% to 3.60% range for 2023. Excluding PPP loans, period-end commercial loan totals increased $209 million or an annualized 9.7% versus September 30. Net of runoff in consumer loans, total loans excluding PPP loans, grew $205 million or an annualized 8.2% for the quarter. The allowance for credit losses on loans decreased $600,000 for the quarter as a result of a $3 million provision for credit losses on loans and $4 million of net charge-offs.

The charge-off activity was expected and was primarily attributable to the write-off of specific reserves established in prior quarters on impaired commercial loans. Asset quality and the economic forecast were largely stable versus the trailing quarter. As a result of the charge-off of specific reserves on impaired credits, the allowance coverage ratio declined slightly to 86 basis points of loans from 88 basis points of loans at the trailing quarter end.

Noninterest income decreased $10.2 million versus the trailing quarter, driven by an $8.6 million gain on the sale of REO realized last quarter and lower insurance agency income prepayment fees, gains on loan sales, wealth management income, partially offset by an increase in bank-owned life insurance income in the current quarter. Excluding provisions for credit losses on commitments to extend credit and merger-related charges, operating expenses were an annualized 1.79% of average assets for the current quarter compared with 1.89% in the trailing quarter and 1.81% for the fourth quarter of 2021.

The efficiency ratio was 46.88% for the fourth quarter of 2022 compared with 47.11% in the trailing quarter and 54.74% for the fourth quarter of 2021. Our effective tax rate was stable at 27.1% versus 27.7% for the trailing quarter. Excluding nondeductible merger-related charges, the effective tax rate was 26.6%. That concludes our prepared remarks. We'd be happy to respond to questions.

(Operator Instructions)

The first question today comes from the line of Mark Fitzgibbon from Piper Sandler.

Tom, I wonder if you could help us understand the thinking around taking a provision for off-balance sheet credit exposure in the third quarter of $1.6 million and then reversing it out this quarter. Why was that?

It really depends on the composition of the pipeline markets, the approved pending closing loans. We had some pretty strong closing activity during the quarter. And as you saw, the pipeline decreased a little bit. So that wasn't replenished. And in addition, the line of credit usage ticked up a little bit, so there was less unused lines. So the commitments that are subject to that reserve were lesser during the course of the quarter. I think in terms of the loss rates, they were pretty consistent from one quarter to the next. So it was really just volume.

Okay. And I apologize. I missed, Tony, your comments on what were assets under management at Beacon and net flows this quarter?

We closed the year AUM -- I'll take this one (inaudible) $3.5 million -- $3.5 billion, sorry, in AUM. And sorry, Mark, what was the second part?

Net flows in the quarter?

Net flows were -- I have said the year-to-date, $66 million positive for the year. That excludes -- so that's new business increases from existing clients, less closed business. It does not contemplate the withdrawals that are made in the normal course lifestyle maintenance.

Okay. And I know it's still uncertain on the closing date of Lakeland, but when are you sort of roughly targeting the systems conversion on Lakeland?

The conversion or the closing, Mark?

The conversion.

So right now, on our calendar, I think we have it for October. Hopefully, things continue to go as planned, and we would have a closing in the second quarter earlier the better.

And then just two last little modeling things. Tom, maybe share some thoughts on your expense outlook and the effective tax rate as well.

Sure. Expenses, I would say, are likely to be -- in the first part of the year, it's always higher. We have some seasonal costs around payroll taxes, potentially weather [kind of] events. So I think in the $66 million to $67 million range. We had a favorable adjustment in the fourth quarter of '22 related to employee medical expenses. We saw claims activity coming lower than anticipated. Some of that carries forward into our own rate for 2023. So we do get a little bit of benefit for that, but there was some nonrecurring adjustment to that. So you really can't build the run rate off of Q4 '22, just one other question on that.

And the effective tax rate sort of 26-ish percent?

Yes. The 26.5% (inaudible) distortion caused by merger-related charges is still appropriate.

The next question today comes from the line of Bill Young from RBC Capital Markets.

Just first on your margin outlook, the 3 50 to 3 60 for the full year, what are you kind of assuming in terms of the Fed funds rate and potential Fed actions there?

Fed funds rate, probably with most everybody else, I guess it's the 225 basis points in February and March and then stability thereafter. The margin for the month of December was about 3 60. So I think we'll slow down a little bit over the course of the year, but the first quarter should be pretty consistent with where we are for Q4.

Got it. Got it. And given the uptick in deposit betas this quarter, I think you had said it was 26% in 4Q. Are you still pretty confident in your through-the-cycle beta rate of 23%?

We are, yes, that uptick was right in line with our expectations. I think it will remain a bit elevated in terms of percentage on the next 2 hikes as well. But we're pretty comfortable when we look at the trends in our deposits -- core deposits, excluding municipal deposits and brokered very stable for the entire year really.

Got it. And just a separate topic. Any color you can add on some of the drivers of the uptick in charge-offs this quarter. I know it wasn't a big number, but are you seeing any trends in any particular asset classes or sectors there?

No, no deterring trends in asset quality at all. I would say very stable. In fact, if you look at the specific metrics, they're like a point or 2 better across the board. Those charge-offs were really related to very specific credits that were previously reserved for the most part.

Price related.

Yes.

Okay. Great, great. And just one final question. Just how are you thinking about the securities book going forward in terms of management this year? And can you just quantify how much that portfolio is cash flow in each quarter?

Sure. I don't see us adding a lot of leverage unless we get a curve that makes sense. So I expect we'll continue to see the securities book run down a little bit and be used to fund loan growth at improved spreads.

I'm sorry, Bill, you asked us about funds flows. It's come down some with the mortgage backed security portfolio rates rising. So it's probably more in the $15 million, $16 million a month at this point. So call it $40 million to $45 million, $50 million a quarter.

(Operator Instructions)

The next question today comes from the line of Michael Perito from KBW.

On the drill down on the margin, I think, Tom, you said that the kind of the exit margin in December was about 3 60. I wonder -- I mean, what's the kind of the spread you guys? Like if you look at the commercial lending pipeline and the yields you're getting there versus incremental funding, where are spreads kind of today as you guys see it?

As I mentioned, our pipeline rate was, I believe, I said 6.76% was the number. I think a lot of our activity that's coming in, we're still growing -- having some inflows on deposits, especially when it's attached to our treasury function for our commercial lending group. So I would say the spreads are still in a place where we -- that's why we say the margin can stabilize. But we also declared that we think that it's close to peak and that we may anticipate the funding costs rising a little bit faster as the year progresses, then the loan yields can keep up, particularly with 2 more Fed hikes.

When you think about incremental funding costs, as you said, the portfolio rates, what, 67 basis points for the quarter, that's pretty reasonable in terms of a new deposit overnight funding on the wholesale market is considerably higher. Right overnight borrowings yesterday were 4 67.

Yes. I think the other thing we have to point out and maybe Tom can give some more color on that is that not all of our growth is going to be funded by loan growth -- by deposit growth.

The securities portfolio.

Exactly.

As mentioned, the regular cash flows as well as not reinvesting there.

That's correct.

What -- do you know what the estimated kind of cash full -- cash flows are from the securities book for the whole year for 2023, Tom, by chance?

It fluctuates, obviously, with the performance of the mortgage-backed portfolio. The large part of that is just government agency mortgage-backed securities. So we've seen as high as $25 million to $30 million a month and sometimes. And I think like I said, we're down around $15 million -- $12 million to $15 million currently.

The portfolio is (inaudible).

Yes, yes. Makes sense. And then for loan growth for 2023, Tony, I mean, I think you said in your prepared remarks, the pipeline is about $1.3 billion, I think you said, and you expect to kind of pull through rates to normalize. I mean, are we right to think roughly kind of a mid-single-digit rate is a good starting point for next year? Or do you think there's some room with payoffs probably being lower, I imagine, to do a little better?

I think it's a combination of what...

obviously, yes.

Yes. I would expect production to be down a little bit given the market cycle. But prepayments are going to be down substantially as well. So a good guidance for us is correct -- you're correct in that 6% range is something that I would say we would die to. And given conditions, we could outperform that. But I would not like to guide beyond 6%.

Yes. That makes sense. And then just lastly for me, you mentioned kind of the Lakeland merger moving as expected. And I think next steps are regulatory approvals 2Q close. It seems like the teams are working well together. Any -- obviously, I imagine that's taking up a lot of your management Board's kind of human capital at this point.

But any other investments or strategic initiatives that we should be mindful of for this year? Or is the focus kind of largely on closing that and getting it converted and then kind of moving from there?

I think our primary focus is getting the Lakeland merger and combination together and getting the 2 cultures clearly aligned. That's job one. Job two with our new CDIO in place, getting him to evaluate the technology stack for a $25 billion organization, and I think that's a priority in the evaluation phase. Decommission some things, commission new items that are aimed to digitize our customer experience and improve our data analytic ability for a bank that side.

So those are our priorities. I don't think those are going to require massive amounts of capital spends to get there. I think it's -- but those are our focuses as we roll through the year, in addition to building all of our business lines.

There are no additional questions waiting at this time. So I'll pass the conference over to Tony Labozzetta for any closing remarks. Please go ahead.

Again, I just want to thank everyone for being on the call, and we look forward to a really good year in 2023. And be safe, and we look forward to talking to you on the next call.

This concludes today's conference call. Thank you all for your participation. You may now disconnect your lines.