Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

Provident Financial Services (PFS)

Q4 2007 Earnings Call

January 24, 2008 10:00 am ET

Executives

Paul M. Pantozzi - Chairman and Chief Executive Officer

Linda A. Niro - Executive Vice President and Chief Financial Officer

Christopher Martin – President and Chief Operating Officer

Analysts

Alex Twerdahl - Sandler O’Neill

Ross Haberman - The Haberman Fund

Steve Moss - Janney Montgomery Scott

Damon DelMonte - KBW

Operator

Hello and welcome to the Provident Financial Services fourth quarter 2007 earnings conference call. (Operator Instructions) Now, I would like to turn the conference over to Mr. Paul Pantozzi.

Paul M. Pantozzi

Thank you and good morning everyone. Welcome to our fourth quarter 2007 earnings call. I’ll start by providing our standard caution as to any forward-looking statements that may be made in the course of our discussion this morning. The full disclaimer can be found in the text of our earnings release, and you can obtain a copy of that, as well as all of our releases and SEC filings by accessing our website, providentnj.com, or by calling our Investor Relations area at 201-915-5344.

For today’s presentation, I’m joined by our Chief Financial Officer, Linda Niro, and by Chris Martin, our President and Chief Operating Officer.

Diluted earnings per share for fourth quarter of 2007 were $0.08 as compared to $0.22 reported in fourth quarter of 2006. Like the rest of the banking industry, you have had to contend with the turmoil in the capital and credit markets, and deterioration in your role economy that characterize the current environment.

Well, we are far from pleased with our earnings for the past quarter. We believe that we have continued to respond appropriately to those challenges that our business fundamentals and our ability to match credit risk have remained solid.

There are several moving thoughts and unique items with our fourth quarter financial performance. We’re going to reverse our usual order and have Linda first take you through the results in detail, and then I’ll follow with some additional commentary. Linda?

Linda A. Niro

Thank you, Paul. I’d like to begin with the discussion of our net interest margin, which decreased 13 basis points to 2.84% during the fourth quarter as compared to 2.97% during the third quarter of 2007. The decrease in the margin was due primarily to an 11-basis-point reduction in the yield on interest-earning assets to 5.76%.

The decline in average yields in our loan portfolio is the result of decreases in short-term interest rates and the reversal of interest income on non-accrual loans, which resulted in a 3-basis-point decline. The average yield on real estate secured loans decreased 19 basis points to 5.81% in the fourth quarter, while the average yield on commercial loans decreased 13 basis points to 7.19%.

The total cost of deposits decreased 6 basis points sequentially and the total cost of interest-bearing liabilities decreased 1 basis point. For the year, the net interest margin decreased 27 basis points to 2.96% at December 31, 2007 compared to 3.23% in the prior year.

Average yields on interest-earning assets increased 25 basis points and the average cost of interest-bearing liabilities increased 53 basis points. The average cost of deposits rose 61 basis points year-over-year and the cost of borrowed funds increased 35 basis points, a reflection of higher than expected deposit rates in the New Jersey market.

Turning to the investment portfolio, total investments increased $21.3 million during the fourth quarter. The portfolio consists primarily of agency mortgage-backed securities and has a weighted average life of 3.9 years and a duration of 3.3 years.

During the fourth quarter $81.2 million in mortgage-backed securities with an average yield of 4.10% were sold and reinvested in agency and AAA mortgage backed securities with an average life of 4.7 years and an average yield of 5.26%. We estimate that the loss of $972,000 realized on the sale will be earned back in a little over a year and we project the transaction will be accretive to 2008 earnings by a penny a share.

Additionally, a decision was made to reclassify the loss on one of the common stockholdings in the portfolio as other than temporary based on the decline in market value. A $1 million impairment charge was recorded to reduce this security to its December 31, 2007 carrying value.

Regarding the loan portfolio, our residential construction lending and credit quality continue to be adversely impacted by the implosion of the subprime lending industry and the inability of many potential homebuyers to obtain conventional mortgages.

During the quarter, total loans increased $68 million or 1.6% sequentially. The largest increase in the portfolio was in commercial loans, which increased $58.3 million or 8.9%. Commercial loans as a percentage of total loans continue to increase and represented 45.2% of the portfolio at year end compared to 41.3% at December 31, 2006.

The growth in the loan portfolio, particularly in the commercial sector along with the slowdown in sales of residential construction projects, an increase in non-performing loans, and downgrades and risk ratings in the loan portfolio has led to an increase in the provision and the allowance for loan losses.

Net charge-offs during the fourth quarter were $539,000 compared to net recoveries of $137,000 for the same period in 2006. And for the year, net charge-offs were $1 million compared to net charge-offs of $866,000 in 2006.

The provision for loan losses was $3.7 million in the fourth quarter compared to $100,000 in the fourth quarter of 2006 and $1.3 million in the third quarter of 2007. The provision for loan losses for the year was $6.5 million compared to $1.3 million in 2006.

The increase in the provision and the allowance for loan losses as compared to the same period in 2006 is attributable to a year-over-year increase in non-performing loans, organic loan growth, and an increase in commercial loans acquired from First Morris in the second quarter of 2007.

Total non-performing assets, consisting of non-performing loans and foreclosed assets, totaled $35.7 million or 0.56% of total assets compared to $11.6 million or 19 basis points of total assets at September 30. As of year end, loans past due 30 days were 1.08% of the total loan portfolio compared to 69 basis points at the end of the third quarter and 42 basis points at December 31, 2006.

On the deposit front, total deposits decreased $49.5 million or 1.2% during the fourth quarter. Increases of $62.7 million in demand deposit balances were more than offset by decreases in savings balances of $67.3 million and time deposit balances of $44.8 million.

Looking at other components of income and expense, non-interest income in the fourth quarter decreased $2.5 million or 31.4% to $5.5 million from $8.1 million in the third quarter.

Fee income decreased $500,000, primarily due to $530,000 in equity fund losses. Fees on deposit accounts increased $110,000 or 3.2% in the quarter. Losses on securities sales and impairment write-downs were $1.9 million in the fourth quarter compared to a minor gain in the third quarter.

Non-interest expense decreased $1.9 million or 5.3% to $33.8 million during the fourth quarter compared to $35.7 million in the third quarter of 2007. The decrease in non-interest expense was due to a $3.4 million reduction in salaries and benefit expense to $17.4 million compared to $20.8 million in the third quarter. The reduction in salary and benefit expense is due to a $2.2 million reduction in compensation expense and a $1.2 million reduction in stock based compensation expense.

Other operating expenses increased $1.1 million to $6 million in the fourth quarter compared to $4.9 million in the trailing quarter due to increases in examination fees, printing and stationery expenses, and consulting expense.

Finally, income tax expense decreased $525,000 to $1.6 million in the fourth quarter compared to $2.1 million in the trailing quarter. The effect of tax rate was 24.9% in the fourth quarter compared to 20.2% in the third quarter.

The decrease in income tax expense was attributable to reduce taxable income. The increase in the effective tax rate on a linked quarter basis was primarily due to the securities impairment charge which had no tax benefit, as a result of its characterization as the capital loss. The effective tax rate for 2007 was 26.5% compared to the 30.2% for 2006.

With that, I’d like to turn it back over to Paul. Paul?

Paul M. Pantozzi

Thank you, Linda. I’d like to add some further contacts to certain of the details that Linda reviewed and to offer some inside edge to what we see lying ahead in 2008. We’ve consistently stated that our strategy involves moving to more of a commercial bank balance sheet and business model.

We think we’ve made good progress toward that goal, as evidenced by $208.3 million increase in commercial loans and $144.6 million increase in commercial real estate and multi-family loans outstanding at year-end 2007 as compared to year-end 2006. This is where we note the result in the ratio of loss to commercial borrowers of 45.2% of total portfolio up from 41.3% at the end of the prior year.

We intend to remain an active commercial lender in our marketplace. In response to market conditions, we have deemphasized our construction lending and concentrated our efforts on generating middle market small business commercial credits. We have no intention of logging our conservative underwriting standards and we’ll continue to be vigilant in our assessments credit risk during this unsettled economic environment.

Regarding that interest margin, Fed rate cuts that occurred prior to year-end impacted loan yields but because of continued intense competition for deposits in our market reprising of liabilities has not followed suite. We expect competition for deposits to remain intense. And when we take into account the Fed’s most recent rate reductions we don’t anticipate expansion in our net interest margin in the near future.

We have continued to maintain the solid capital position and this has facilitated our ability to pay cash dividends to our stockholders. As the current environment continues to unfold, we will place the highest priority on capital maintenance as a fundamental safeguard against the potential effects of an unsettled economy. Our future stock buyback activities will be assessed accordingly.

Finally, we will continue to assess opportunities for a profitable franchise expansion but we will remain highly selective. In April we completed our acquisition of First Morris and our retention of the customer relationships we picked up in that transaction has been good, with 98.3% of deposits acquired on our books at year-end. We also exceeded our expectations for cost saves; we had targeted 39% and achieved 42%.

In the fourth quarter we opened an additional de novo branch in Morris County, which is already off to a strong start. We currently have three additional branch projects in various stages of development right in our market area.

Regarding possible acquisitions, we will continue to review opportunities that make economic sense. But for the foreseeable future, those are ought to be exceedingly rare. We view dilution to our tangible book value as undesirable unless there is a clear path to earning it back within a reasonable timeframe.

With that, I would like to open up the call to your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from Alex Twerdahl - Sandler O’Neill.

Alex Twerdahl - Sandler O’Neill

My first question is you mentioned the downgrades of risk ratings on certain credits. Aside from the four large problem loans, how many other credits were downgraded and how much of total loans does that represent?

Linda A. Niro

Alex, there was a fair amount activity in the quarter. But those were the major loans that were downgraded and that had an impact.

Alex Twerdahl - Sandler O’Neill

And my second question is the effective tax rate has jumped around in recent quarters. Can you give us an idea what the normalized tax rate should be going forward to 2008?

Linda A. Niro

Yes, we estimate that our normalized tax rate will be 27%.

Operator

The next question comes from Ross Haberman - The Haberman Fund.

Ross Haberman - The Haberman Fund

A quick question, did you mention your interest rate sensitivity at year end and if would you see another cut or two, how you see that effecting the margin?

Linda A. Niro

Again near term, we expect that it may have no real significant effect. We’re starting to see deposit rates, our average costs on deposits come down very slowly and that’s really tied to the competitive marketplace. Whereas rates on our floating rate assets are repricing almost immediately with changes in prime rate or LIBOR.

So near term, until we can start seeing time deposits roll down in rate and depending on where we can go in our marketplace, and how rapidly we can respond, we don’t see within the first quarter any significant improvement in the margin.

Ross Haberman - The Haberman Fund

In terms of your specific markets, can you touch open what sectors either by category or geographic, what’s good, what’s bad, certainly refinancing is going to be good. Is the Northern part of the market better than the Southern or could you touch upon that in terms of loan and loan financing?

Christopher Martin

The market itself where we’re located in Northern Central New Jersey is still doing fairly well. We haven’t had many issues regarding that specific area. There is nothing really that’s wrong in the markets we’re in.

I think there is just a general slowdown in the economy that will probably affect how those come out, but housing has been okay, it’s not running all great guns. The urban areas some of the projects we have, have still done fairly well, albeit a little bit slower, but we don’t see anything dramatic on the horizon.

Ross Haberman - The Haberman Fund

The sale of Commerce, do you see that as better for you on the deposit side? What are you doing I guess to take to take advantage of it?

Paul M. Pantozzi

I think that represents an opportunity for us. Any time there is a significant change or an acquisition in the market, there are usually opportunities for other institutions that have been well placed and stable within those markets to achieve some benefits.

We’ve accelerated our business development efforts in terms of small business across our market. So we feel there will be some opportunities in the coming months. We’re seeing some incremental increase in business as we speak.

Ross Haberman - The Haberman Fund

Do you think you can pick up personnel, customers, or maybe the branches?

Paul M. Pantozzi

We haven’t looked that far but at this point in time, we’re concentrating on business development. We have a full complement in terms of personnel, so we’re not actively looking for a bunch of people.

Operator

The next question comes from Steve Moss - Janney Montgomery Scott.

Steve Moss - Janney Montgomery Scott

With regard to the loan loss reserve and net charge-offs, what are your expectations going forward?

Linda A. Niro

We really evaluate the portfolio very carefully every quarter and we spend a lot of time with the lending folks. Right now, we are not seeing anything significant. But that’s right now; we assess it on a quarter-by-quarter basis. Our increase in the provision, as we stated in our press release due, was mainly to growth, growth in the commercial sector, as well as some adverse changes in risk ratings, which lead to an increase in your required reserves.

Steve Moss - Janney Montgomery Scott

And with regard to share repurchases here, it seems to be indicating more hesitancy. Just to work through what your change in thoughts are here, since you still are well capitalized.

Linda A. Niro

Sure. Again, we evaluate stock repurchases constantly. They are subject to our internal review, subject to where we think we can get our rate of return, where our best use of capital is. However, we are really committed to using our capital to support organic loan growth. That’s our business model. We’re committed to that. And again, we evaluate it on a monthly, weekly basis.

Steve Moss - Janney Montgomery Scott

With regard to how much were the equity fund losses during the quarter?

Linda A. Niro

The equity fund losses were $539,000.

Operator

Our next question comes from Damon DelMonte - KBW.

Damon DelMonte - KBW

Linda, with regards to the marketing expenses this quarter, do you guys have some sort of initiative going on that would cause it to spike up to $1.6 million?

Linda A. Niro

We have several initiatives related to small business as well as our Platinum product. And also fourth quarter is typically a quarter where you’d see increase in accruals. But we also have an escrow account campaign going on as well.

Damon DelMonte - KBW

Okay, so we wouldn’t expect this level of expenses going forward in that category. Is that correct?

Linda A. Niro

That’s correct.

Damon DelMonte - KBW

With regards to the penny worth of expenses for the executive separation program, is that broken out anywhere in the release?

Linda A. Niro

Yes, it is. It’s broken out right on the second paragraph.

Damon DelMonte - KBW

Is that included right now in the salary and benefit lines or would you exclude that for modeling purposes?

Linda A. Niro

That’s right. That will not be recurring.

Damon DelMonte - KBW

And then lastly with regards to your construction portfolio, can you just give an overview on how you are seeing the loans performing? Were any of the ones that were NPA this quarter related to construction projects?

Linda A. Niro

Yes, there was one. One was related to construction projects. However, that one has a 100% reserve of the estimated loss against it. The bulk of them were in the commercial sector and commercial mortgage.

Damon DelMonte - KBW

And again with regards to the construction portfolio, how are the projects that the builders are involved in? Have you seen a big slowdown in the builders’ ability to turn over the final product or are you seeing things continuing to chug along?

Linda A. Niro

We’ve seen a slowdown, but sales are continuing. So they are slower than expected and the projects are taking longer to turn over. We’ve been seeing this for the past two quarters. And some of them might be turning into rental properties as well as opposed to for sale.

Operator

It seems you have no further questions.

Paul M. Pantozzi

Thank you very much for your attention and participating in this call. We look forward to the next quarter. Thank you.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Provident Financial Services Q4 2007 Earnings Call Transcript
This Transcript
All Transcripts