Provident Financial Holdings Inc (PROV) 2011 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to the second quarter earnings release conference call. At this time all participants are in a listen-only mode. Later there will be an opportunity for questions. Instructions will be given at that time. (Operator Instructions)As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host, Chairman and CEO of Provident Financial Holdings, Mr. Craig Blunden. Please go ahead.

Good morning, everyone. This is Craig Blunden, Chairman and CEO of Provident Financial Holdings. On the call with me is Donavon Ternes, our Chief Operating and Chief Financial Officer.

Before we begin, I have a brief administrative item to address. Our presentation today discusses the Company's business outlook and will include forward-looking statements. Those statements include descriptions of management's plans, objectives, or goals for future operations, products or services, forecasts of financial or other performance measures, and statements about the Company's general outlook for economic and business conditions. We also may make forward-looking statements during the question-and-answer period following management's presentation. These forward-looking statements are subject to a number of risks and uncertainties, and actual results may differ materially from those discussed today.

Information on the risk factors that could cause actual results to differ from any forward-looking statements is available from the earnings release that was distributed yesterday and from the annual report on Form 10-K for the year ended June 30, 2010, and from the Form 10-Qs that are filed subsequent to the Form 10-K. Forward-looking statements are effective only as of the date that they're made, and the Company assumes no obligation to update this information.

To begin with, thank you for participating in our call. I hope that each of you has had an opportunity to review our earnings release, which describes our second quarter results. The major components influencing our current financial results are unchanged. Mortgage banking and credit quality. We continue to be pleased with our mortgage banking results. The volume of loans originated for sale in the second quarter of our fiscal year remain strong, and was a result of lower interest rate environment, fewer competitors in the business, and the strategic decision to invest in our mortgage banking operations during the last 18 months or so.

Additionally, refinance volume remained elevated during the quarter. However, new applications declined in November and December, which is typical of during the holidays, resulting in a smaller locked pipeline for the start of our third quarter in comparison to our first and second quarters, suggesting that volumes of loans originated for sale will decline in the third quarter from the levels originated during the first and second quarters of fiscal 2011. Additionally, we're well aware of the lower forecasts regarding loan origination volume in calendar 2011 from a variety of industry sources, and we'll be monitoring our results to determine if a decline in our volume is other than temporary.

The loan sale margin improved from the September 30, 2010, quarter but will remain volatile as we continue to reserve for loan repurchases and intermittently change our investor sales mix to mitigate liquidity and capital risk by delivering more loans to the GSEs when required, which settle their loan purchases much more quickly than private investors, but to the detriment of our loan sale margin. We continue to believe that the mortgage banking environment remains favorable and provides us an excellent opportunity to augment earnings. We have been investing in the business primarily by hiring additional personnel, but we will remain vigilant regarding the operating environment so we can adjust our model, as we have done in the past, commensurate with lower loan origination volumes.

Credit quality improved during the quarter. Total non-performing assets on December 31, 2010, decreased to $63.5 million, a 37% decline from what appears to be the peak of $100.7 million on December 31, 2009. We recorded a $1 million provision for loan losses during the quarter ended December 31, 2010, while net charge-offs declined to $3.2 million, which was lower than the net charge-offs of $5.3 million in the September 30 quarter and $5 million in December 31, 2009, quarter.

We are disappointed with the increase in the loans 30 to 89 days delinquent, which are primarily single-family, but do not detect at this point in time the start of a worsening trend. As we've described in the past, improving credit quality will be inconsistent and choppy. Performance is closely tied to general economic conditions, and while our outlook regarding credit quality has improved from last year at this time, we continue to believe that higher unemployment rates and muted economic growth may last through the first half of 2011, keeping nonperforming assets elevated. It is important to note, though, that this quarter marks the fourth consecutive quarter where asset quality has improved.

In addition to our positive outlook on mortgage banking and improved but guarded view of credit quality, there have been other developments regarding our operating results. For instance, our operating expenses have increased as a result of hiring additional mortgage banking personnel, but we're seeing the payoff in improving efficiency ratio because revenues generated by mortgage banking are outpacing expenses. We monitor operating expenses very closely and will be quick to make adjustments if necessary.

We continue to maintain higher liquidity balances in response to the uncertain operating environment, although doing so has reduced our net interest income. Additionally, we continue to invest in our retail deposit franchise, resulting in higher core deposit balances. Our net interest margin has improved as a result of the higher core deposit balances, and downward repricing of certificates of deposit and Federal Home Loan Bank advances. Nonetheless, the key takeaways with respect to our second quarter results are the opportunities we see in mortgage banking and the favorable credit quality trends.

Our short-term strategy for balance sheet management is unchanged from last quarter. We do not believe significant deleveraging of the balance sheet is required, but we recognize that loan demand is tepid and it may be difficult to generate a sufficient volume of loans held for investment to replace pay off. We believe that maintaining capital ratios at their current levels is critical, but we will allow an increase in loans held for sale to accommodate mortgage banking while we reduce other balance sheet components if necessary to maintain the core capital and total risk-based capital ratios above 8% and 12%, respectively.

I encourage everyone to review our December 31 investor presentation posted to our website. You will find that we have included slides regarding mortgage banking and asset quality, which we believe will give you additional information on the favorable mortgage banking fundamentals and the credit risk embedded in our loan portfolio.

We will now entertain any questions that you may have regarding our financial results. Thank you. Rachelle?

Thank you. (Operator Instructions) Your first question comes from the line of Brett Scheiner of FBR Capital Markets. Please go ahead.

Gentlemen, can you talk about gain on sale margins, current -- specifically elevated levels and what could drive that going forward? What are the moving parts here?

Sure, Brett. This is Donavon. One thing I'd like to point out, if you look at our loan origination volume, one of the things that we've been doing as it relates to the increasing volume in the investment we're making in mortgage banking operations, is primarily in the retail area, in contrast to the wholesale area. In fact, if you look at loans originated for sale through the first six months of this year, fiscal, in comparison to the first six months of last fiscal, retail originations has more than doubled while wholesale originations has gone up by about 10%. So, the investment is going into retail originations. The margins are better in retail in contrast to wholesale. The profitability is better, so some of the margin generation is a result of what we're doing with respect to the mix of originations.

Secondarily, if you think about what occurred in the September quarter and the December quarter of this year, there was a great deal of demand. Loan originations were very stout. New applications came in very well, not just for us, but for others in the business. As a result, we're able to price that production higher to control those levels of origination. So our service levels don't go down, either to our borrowers or to the brokers that we deal with, and so I think a combination of those two things has generated better loan sale margin over the course of the last six months.

As we go forward, the reverse can also be true. March is typically the quarter, from a seasonal perspective, that is the lowest origination volume in any given year. And that's because we're just coming out of the holidays and the locked pipeline has essentially been funded out and not replenished as well as it has been in previous quarters, because we're in the holiday season. So, to generate that pipeline again originators such as ourselves will be cutting margins to some degree to generate a pipeline to keep the mortgage banking volume up and moving forward.

So, I think when there is a great deal of demand we can expand our margins. When there is less demand or when we're looking to build origination volume we cut our margins, and that's essentially what the industry does.

I appreciate that. And when you cut margins to keep volumes up -- or demand up, do you think you can hold the recent spikes in sales, or do you think you will be hurt by both gain on sale coming off from a margin and a volume perspective, even if it's incremental?

Well, I think going into the March quarter, I think both the margin is going to come under some pressure, and I also think origination volume is going to come under some pressure. We just ended our second best quarter ever in our history. The September quarter was $649 million or $650 million.

Yes.

December quarter was $620 million, but we start this January 1 with a larger locked pipeline than last year January 1. March quarter last year was $359 million of volume. If we're starting at a larger locked pipeline, I would expect that we could perhaps best our actual volume from last year at this time -- or for that March quarter, but I do think volumes will come down from where we were.

That's very helpful. Thanks again.

Thank you. Next question comes from the line of Tim O'Brien, Sandler O'Neill and Partners. Please go ahead.

Hi, this is actually Andrew on for Tim. How are you doing today?

Good.

Good quarter here. Just a couple questions that Tim wanted me to ask. Prospect of dividend increase?

You know, it is something we haven't discussed at this point. I'm sure we will as time moves on, and the economy gets better, but at this point we've been building capital levels and really focusing on that rather than dividends.

Given that you have been profitable the last couple quarters and things do look better, when you do return to paid dividends or a higher dividend level, is there a certain payout ratio that you would like to target?

We really haven't established anything of that nature at this point in time, Andrew.

Got you. Okay. Then when was your most recent regulatory exam?

It was about -- finished about I a year ago right now.

Got you. That's kind of what we were expecting. Have they talked to you about coming back?

Yes. We know we have an exam coming up soon.

And then one last question. Prospects for growth in the held for investment portfolio? Last quarter you talked a little about multi-family and I was just kind of curious. You said it might take a few months to get that ramped up as far as hiring is concerned, but just kind of any prospects there?

I think there is two issues there. It is not just the fact that we may end up needing a few more people for that, but we're still noticing in the marketplace because we're out there looking today to originate loans like multi-family, and we're finding not a lot of demand in the marketplace at this point. So, I think that's going to affect how much we actually originate.

Thank you.

Thank you. The next question comes from the line of Tim Coffey of FIG Partners. Go ahead.

Good morning, gentlemen.

Good morning, Tim.

Look like Tim O'Brien took my question. But anyway, moving on. Craig, you talked about a little bit on that last part there about -- what are your thoughts on being able to diversify the revenue stream right now? Do you see other opportunities out there?

I think there are opportunities out there, Tim, but I think also there is a demand curve out there, and as Craig pointed out, as we're reentering that market looking for what we historically have called preferred loans to add to our loans for held for investment portfolio, we're finding that the demand is really not as great as we or other lenders, I'm sure, would like. And so, then all of a sudden as you're looking at deals, you're starting to compete on price points again because demand is pretty tepid, and so that whole vicious circle of what are we willing to put the loan on for, in contrast to being able to put the loans on, also enters the picture.

And so I think we're pretty early on in this process. We really only reentered this market toward the latter half of our second quarter, November/December timeframe. We are seeing a few deals. The quality of deals aren't as good as they once were with respect to some of the deals that we're seeing. And the price points, because competition is pretty healthy out there, are a little bit lower than what we would have originally expected. So, the initial or short-term implications of that are that diversification out of mortgage banking in the next six months is going to be difficult, although that's the path we're taking.

Okay. And the last three months or so, have you gained any kind of clarity regarding regulator expectations to capital levels?

I wish. You mean other than more capital?

Yes.

No, but I am expecting as we get closer to mid-year, because the regulators are all working on this not only because of BASEL III because of the OTS being absorbed into OCC, and Dodd-Frank, and all of this coming together at the same time, I really think we'll have a lot more clarity on it by mid-year. Remembering that, of course, that OTS merger is going to happen in July, which will be here before you know it. So, I think then maybe we'll have a better feeling of where all of this should be.

Okay. And then I apologize if I missed it earlier in the call, but can you give me an idea of how the entry level housing market is doing in your footprint?

It slowed down somewhat, and we all saw prices drop off a bit in the last quarter of the calendar year in 2010, but since the first of this year we've seen a pretty good pickup in the entry level housing market again, which helps prices stabilize again and probably move up some. As you know, they went up and then they came off, then they were flat, down a little bit, and now they're back -- we think they're going to be back up again. Talking to realtors, we're hearing that. And then also just on the REOs that we sell, all of a sudden we're starting to get multiple offers again, which is always a good sign, where those kind of disappeared the last half of last year.

Okay. And then the market for jumbo loans, continues to be constricted?

Yes, pretty much just the major banks are still in that market, and a few institutions that are portfolioing some jumbo loans, that's about it.

Okay.

And there is also -- the problem there, Tim, is that that's an area where values have not stabilized in the upper ranges. Certainly over $1 million homes. We're just not seeing a firming of that market yet, and that may be partially because there is not a lot of availability of funds.

Frank -- Dodd-Frank also has the whole risk retention issue as it relates to ABS and mortgage-backed securities, and it seems to me that other than the very large banks who are originating in that market and putting them into their portfolios, until clarity comes around, what risk retention may look like, I don't think that market is going to be developing very quickly at all. Now, if we get clarity there, I think there absolutely can be a market that will develop, but I think we have to wait for clarity, and I think we have to wait for price transparency, as Craig mentioned.

I wonder, too, if the reason why there is such a limited secondary market at this point is again, because prices haven't stabilized very well on that upper end.

Compared to a year ago, does that jumbo market seem to be unchanged, better, worse?

Price-wise, probably a little worse from a year ago.

Okay.

And very little volume.

Okay. All right. Great. Those are all my questions. Thank you.

Okay, Tim.

Thank you. (Operator Instructions)You have a question from the line of Jason Stewart of Compass Point. Please go ahead.

Thank you, and another good quarter. Congratulations. I wanted to hear a little bit more color on the delinquency increase and whether you think that there's some seasonality effect to it, or if there are increasing roll rates, any color you could provide would be great.

It is difficult to give -- the only color we can give you is that it doesn't look like it's the beginning of a new poorer trend. I do think there might be some seasonality to it. I think there might be those borrowers who have gotten themselves through the holidays and 2011 is going to be the year that they let their homes go. And kind of a cleansing on that basis. So, it's -- very early part of what has really occurred or timing, with respect to what has really occurred, so it is difficult to get a handle on it because, frankly, we were a little bit surprised as well, because delinquency trends have been trending down, and then we saw that 30-to 89-day spike.

It did seem like that all of a sudden there was just this small group of single-family borrowers that just decided even though they could afford the payments, that because of the value of their home versus the amount of their loan, they just decided to quit, and in fact there was really no discussion. It wasn't that they wanted a modification or anything else. They just stopped paying before the end of the year. We hadn't seen that before.

Okay. That's good. I appreciate that. And just a follow-up on one of the earlier questions, you were talking about the retail versus wholesale mix. Is there a difference in the percentage of re-fi versus purchase in those two channels, or were they pretty similar?

There really is a difference. Certainly retail is able to have a higher mix of purchase loans than re-fi over time, consistently, whether there is a re-fi market going on or not, just because the retail people, let's say, in Riverside, we cover it very well with our loan officers, have these great relationships with the realtors, and they've just got a consistent following day-in and day-out, and that's again one of the reasons why we have been focusing on the retail side of the business. And then number two, we're just not sure long-term what change in these compensation rules are coming up April 1 where the whole wholesale business is going. We're seeing some wholesalers actually become branches of bank mortgage departments now.

And just one final question. On the OpEx number, if we do see a decline, as you suggested we should in the origination volume, is there a point or a period of time in which you will keep the infrastructure and OpEx will stay roughly consistent, or is that something that you think you can bring down as production comes down?

That is absolutely on the table when we determine that lower volumes are other than temporary. The difficulty in making that assessment in the March quarter is because of the seasonality factor. The March quarter every year is typically the worst quarter of the year with respect to origination volume, so we're going to be monitoring what originations look like, what the market looks like in making that assessment as we go through the quarter. And absolutely, if we think that the volume issue is other than temporary, we're going to have to take a look at our infrastructure costs and perhaps bring them down.

If you look back, and certainly we've noticed over time, we have been so aggressive at times when we have seen volumes fall off that we have let a group go and then two months later we had to hire them back again, and we try not to do that, but that's how aware we are of the costs of carrying a too large a crew when volumes are down. It is always toughest to know exactly when to pull the trigger.

Right. Okay. Thanks for taking my questions. I appreciate it.

Thank you.

Thank you. There are no further questions in queue. I would like to hand it back to you, gentlemen.

If there are no more questions, I want to thank everyone for joining our quarterly conference call, and look forward to speaking to all of you again in the next quarter. Thank you.

Okay. Thank you. Ladies and gentlemen, this conference will be made available for replay after 11 am today until February 4 at midnight. You may access the AT&T executive playback service at any time by dialing 1-800-475-6701 and entering the access code 188529. International participants dial 1-320-365-3844 and again, that access is 188529. That does conclude our conference for today. Thank you for your participation and for using AT&T executive teleconference service. You may now disconnect.