Provident Financial Services Inc. Q1 2008 Earnings Call Transcript

Apr.30.08 | About: Provident Financial (PFS)

Provident Financial Services Inc. (NYSE:PFS)

Q1 2008 Earnings Call

April 24, 2008 10:00 am ET

Executives

Paul Pantozzi - Chairman and CEO

Linda Niro - CFO

Chris Martin - President and COO

Analysts

Rick Weiss - Janney Montgomery Scott LLC

Matt Kelley - Sterne, Agee & Leach

Theodore Kovaleff - Sky Capital

Mark Fitzgibbon - Sandler O'Neill

Michael Cohen - SuNOVA Capital

Operator

Hello, and welcome to the Provident Financial Services, Inc. first quarter 2008 Earnings Call. All participants will be in listen-only mode. There will be an opportunity for you to ask questions at the end of today's presentation. (Operator Instructions) Please note this conference is being recorded.

Now, I would like turn the conference over to Paul Pantozzi. Mr. Pantozzi, please go ahead.

Paul Pantozzi

Thank you. Good morning, everyone, welcome to our first quarter 2008 earnings call. I'll begin with our standard caution as to any forward-looking statements that may be made in the course of our discussion. 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 other releases and SEC filings by accessing our website, providentnj.com or by calling our Investor Relations area at 201-915-5344.

Today's presentation, I'm joined by our Chief Financial Officer, Linda Niro and by Chris Martin, our President and Chief Operating Officer. Hopefully, everyone had time to review our first quarter earnings that were released yesterday morning. I would like to call your attention to several positive features of our operating results.

First of all, there were relatively few one-time items of either income or expense that affected our net earnings of $0.19 per share. Second, our net interest margin expanded for the first time in several quarters as the yield curve began to achieve a positive slope and our funding costs decreased faster than asset yields.

Next, we recorded a quarterly provision for loan losses of $1.3 million. We believe this was appropriate given our current assessment of risks within our loan portfolios. Next, our core non-interest income categories -- particularly fee income -- increased in comparison to both the trailing quarter and the first quarter of 2007.

On the expense front, the ratio of annualized non-interest expense to average assets improved to 2.03% for the first quarter of 2008 compared to 2.09% for the same period in 2007. The synergies and cost savings that we have achieved from our First Morris acquisition, as well as other initiatives taken in 2007 have helped us manage our cost structure.

Turning to the balance sheet, total loans outstanding would have shown moderate growth during the first quarter if it were not for the $55.2 million of residential mortgage loans that we securitized and brought over to the investment portfolio. On the liability side, our core deposits grew at an annualized rate of 7.4% in the first quarter. We hope to build on that momentum with the introduction of new retail products that we'll be promoting very heavily in the weeks ahead.

Those are some of the highlights. I will now ask Linda to give us a more detailed review of our first quarter results. After that, I would like to offer some observations regarding our asset quality and our capital position. Linda?

Linda Niro

Thank you, Paul. The net interest margin increased three basis points to 2.87% during the first quarter compared to 2.84% during the fourth quarter of 2007. The increase in the margin was due primarily to a decrease of 24 basis points in the average cost of deposits to 2.87% from 3.11% in the trailing quarter. The cost of borrowed funds also decreased 13 basis points sequentially, resulting in an overall reduction in the cost of interest-bearing liabilities of 19 basis points.

The average yield on net loans decreased 19 basis points to 5.9% from 6.09% and the average yield on investments increased 12 basis points to 4.67% from 4.55% on a link quarter basis. The decline in the average yields in the loan portfolio, reflect the decrease in short-term interest rates during the quarter and the composition of the commercial loan portfolio, which is 53% floating or adjustable rate. Average yields on interest-earning assets decreased 13 basis points to 5.63% from 5.76% in the trailing quarter.

Total investments increased $91 million during the first quarter. Increases included $55.2 million in one to four family 30-year fixed rate residential loans that were securitized from the bank's loan portfolio and added to investments available for sale. The investment portfolio consists primarily of agency-guaranteed mortgage-backed securities and has a weighted average life of 4.4 years and a duration of 3.6. During the quarter, total loans decreased $40.6 million or 0.9% sequentially. The largest decrease in the portfolio was in residential mortgage loans, which decreased $64.1 million, primarily as a result of the mortgage securitization.

Construction loans also decreased $22.4 million during the first quarter, while commercial mortgage loans increased $56.8 million. Commercial loans as a percentage of total loans continued to increase and represented 46.4% of the portfolio at March 31st compared to 45.2% at year end. The continued growth in the commercial sector, along with the regional slow-down in sales of residential construction projects, some downgrades in risk ratings, and the uncertain economic environment resulted in a provision for loan losses in the amount of $1.3 million.

Net charge-offs during the first quarter were $1.2 million compared to net charge-off of $539,000 in the trailing quarter. Total non-performing assets consisting of non-performing loans and foreclosed assets totaled $30.6 million, or 0.48% of total assets, compared to $35.7 million, or 0.56% of total assets at December 31, 2007. As of March 31, 2008, total delinquencies were 1.13% compared to 1.52% at year end.

Total deposits increased $10.1 million, or 0.2%, during the first quarter of 2008. Increases of $88.4 million in demand deposit balances were partially offset by decreases in savings balances of $40.3 million and time deposit balances of $38 million. At the end of the first quarter, core deposits as a percentage of total deposits were 62.2% compared to 61.2% at year end.

Non-interest income in the first quarter of 2008 increased $3.2 million, or 59%, to $8.8 million from $5.5 million in the fourth quarter of 2007. Securities gains were $96,000 in the first quarter compared to a loss of $1.9 million in the trailing quarter. Other income increased $1.1 million to $1.3 million in the quarter, due primarily to the gain on the sale of a branch and the gain associated with the Visa initial public offering.

Non-interest expense decreased $1.9 million, or 5.6%, to $32 million during the first quarter compared to $33.8 million in the trailing quarter. The decrease in non-interest expense was due primarily to a $1.1 million reduction in advertising and promotion expense, a $686,000 reduction in compensation and benefit expense, and a $664,000 decrease in other operating expense, partially offset by increases in data processing, net occupancy, and intangible amortization expense. The reduction in compensation and benefits expense was due to a $1 million executive severance expense recorded in the fourth quarter of 2007, partially offset by increases in the first quarter of 2008 due to the resetting of FICA limits and annual merit increases.

Other operating expenses decreased as a result of decreases in examination fees, printing and stationary and consulting expense. The increase in IT expense was primarily due to year-end processing while the increase in intangible amortization expense was caused by the accelerated write-off of the $104,000 core deposit intangible in connection with the branch sale.

Income tax expense increased $2.5 million to $4 million in the first quarter compared to $1.6 million in the trailing quarter. The increase in income tax expense on link quarter basis was due to an increase in pre-tax income to $14.7 million for the first quarter, compared to $6.3 million for the fourth quarter, and an increase in the effective tax rate to 27.4% for the first quarter of 2008 compared to 24.9% for the fourth quarter of 2007.

Now, I'd like to turn it back over to Paul for his additional comments.

Paul Pantozzi

Thank you, Linda. As Linda noted, both our non-performing asset ratio and our loan delinquency level have decreased since the end of the prior quarter. It bears repeating that we have no sub-prime loans in our portfolio and that our consumer and residential mortgage credits have remained stable.

Regarding our commercial portfolios, impaired loans declined $6.6 million to $18.2 million and a reserve of $2.9 million is still associated with three impaired credits we disclosed last quarter. In addition, we had $39.3 million in previously classified credits pay off during the past quarter. We'll, of course, continue to monitor all of our credits in these unsettled times.

Finally, with regard to capital management, our strategy has three components -- sustainable quarterly cash dividends; deployment for accretive acquisitions; and share purchases, when the internal rate of return is favorable. We remain committed to maintaining a strong capital base. With the return of a positively-sloped yield curve, we believe that booking loans provide the better return and is more aligned with our strategic goals than share repurchases. I would add that I'm pleased the Board of Directors has declared a dividend of $0.11 per share, consistent with the previous quarter.

With that, I'll be happy to open up the call for any questions.

Questions-and-Answers Session

Operator

(Operator Instructions). Our first question comes from Rick Weiss of Janney.

Rick Weiss - Janney Montgomery Scott LLC

Good morning. Thank you for taking my question.

Linda Niro

Good morning.

Rick Weiss - Janney Montgomery Scott LLC

First, could you just talk about housekeeping of the tax rate. What would be a normalized rate to use for modeling purposes?

Linda Niro

27%.

Rick Weiss - Janney Montgomery Scott LLC

27%. Okay, great. And, Paul, I guess to follow-up a little bit with regard to the buybacks versus making loans, how would you feel about investing more in securities or leveraging up that portfolio versus buybacks?

Paul Pantozzi

We really want to go out there and do the lending, Rick. We've geared our organization for that purpose, both on the small business and middle-market front. We have staff in place. Our network is poised to go out and become more aggressive in the marketplace in terms of outreach and that would be our preference at this point in time.

Rick Weiss - Janney Montgomery Scott LLC

Okay. Would you have a target for a securities-to-assets ratio?

Linda Niro

We're certainly looking to get it at 20% or a little bit over 20%, so we're moving in that direction.

Rick Weiss - Janney Montgomery Scott LLC

Okay. Thank you very much.

Linda Niro

You're welcome.

Operator

Our next question comes from Matt Kelley of Sterne Agee. Please go ahead.

Matt Kelley - Sterne, Agee & Leach

Yes, hi guys. Question on the time deposits; you have $1.6 billion on the average balance sheet at a 424 cost. How much is going to reprice over the next year and what are you guys promoting right now on CDs as customers rollover?

Linda Niro

About 80% is going to reprice during the coming year and right now we're looking at rates resetting down about 150, 160 basis points.

Matt Kelley - Sterne, Agee & Leach

Okay.

Linda Niro

That's on average.

Matt Kelley - Sterne, Agee & Leach

Right. And on the borrowings, the $1.1 billion of borrowings?

Linda Niro

Yes?

Matt Kelley - Sterne, Agee & Leach

How much is going to mature this year?

Linda Niro

Let's see, about $200 million.

Matt Kelley - Sterne, Agee & Leach

Okay. Are those what you anticipate being called away or are those actual maturities?

Linda Niro

Most of them are prepayments on mortgage-backs --.

Matt Kelley - Sterne, Agee & Leach

On the borrowings?

Linda Niro

Yes, because 72% of portfolio is MBS.

Matt Kelley - Sterne, Agee & Leach

Okay, all right. And then just on the NPAs, I was wondering if you could just walk us through kind of the migration of what came off versus what came in to bring us from the year-end balance of $36 million to $31 million, trying to figure out how much was charged off in terms of a dollar amount versus how many new NPAs came into that bucket?

Linda Niro

Well, we had growth charge-offs of $1.7 million during the quarter and there's always different ones rolling in and out. With regard to the classified credits that we had paying off, $4.6 million of that was in non-accrual loans that were repaid in full.

Matt Kelley - Sterne, Agee & Leach

Okay, all right. And maybe just, big picture, how are you guys feeling about commercial real estate construction in your core central northern Jersey markets that you operate in, this quarter versus last quarter? Directionally, are you still getting more concerned? Are things stabilizing? And maybe some commentary on that bigger picture sense?

Paul Pantozzi

From our vantage point, the window is still open for our customers, so we'll consider any deals that come to the table. We're not out there aggressively necessarily looking to put on new commercial credits -- commercial real estate credits -- but we do have some longstanding relationships and as the market begins to turn, we're there for them. So I think it's going to be some time before we see any stability despite the fact that New Jersey maybe hasn't seen the kind of impact that other states have, but I think we're seeing perhaps a foreclosure creep within the markets given what's happening in Trenton. But we're still open to business. We haven't really curtailed any of our lending activities, but during the normal course of business, that type of behavior in lending has slowed.

Matt Kelley - Sterne, Agee & Leach

Okay.

Chris Martin

Matt, following up on that, obviously with a lot of the conduits pulling out of the business and/or along the sidelines, there's probably a little more opportunity for us. We're being pretty defining in how we approach that business, but it does give us a little bit of advantage in the market.

Matt Kelley - Sterne, Agee & Leach

And how have spreads changed on permanent financing and construction financing over the last couple of months as the conduits have pulled out? I know that some of the multi-family players are telling us that spreads are widening out significantly. Are you seeing that on the commercial real estate side and the permanent and the construction side as well?

Chris Martin

It's never wide enough, but it's pretty competitive, but I think it definitely has gotten a little bit better as the participants are fewer. Some of the loans that we're doing are at better spread and, or at absolute levels that we think are much better than in the past.

Matt Kelley - Sterne, Agee & Leach

Okay. Any way to quantify that at all, on the commercial real estate side, spread?

Chris Martin

It's tough to say; it's deal specific.

Matt Kelley - Sterne, Agee & Leach

Okay. Nice quarter, thank you.

Linda Niro

Thanks.

Operator

Our next question comes from Theodore Kovaleff of Sky Capital.

Theodore Kovaleff - Sky Capital

Yes, good morning.

Paul Pantozzi

Good morning.

Linda Niro

Good morning.

Chris Martin

Good morning.

Theodore Kovaleff - Sky Capital

My question to you is about the possibility of further acquisitions and wonder whether you are shying away from them, whether the pricing is getting more to your liking, etc. So if you could speak a little bit to acquisition strategy, I'd appreciate it.

Paul Pantozzi

We're always actively looking in the market for opportunities that make good sense for us and have the appropriate return and expansion of our franchise. Many people would suggest that this maybe is not the correct time to be entering into a deal. We're not engaged. We don't particularly talk about specific deals, but we're always looking for opportunities. We would not shy away from something that made good sense for us.

Theodore Kovaleff - Sky Capital

And good sense is in market or expansion outwards?

Paul Pantozzi

Our goal is to continue to fill-in in market. New Jersey is a very large geographic marketplace and we feel there are opportunities to fill in and add to the 10 counties that we currently reside in.

Theodore Kovaleff - Sky Capital

Thank you.

Operator

Our next question comes from Mark Fitzgibbon of Sandler O'Neill.

Mark Fitzgibbon - Sandler O'Neill

Good morning and thanks for taking my question. Linda, just to clarify one thing you said. I think in your earlier comments said total delinquencies for the end of the quarter were 1.31%?

Linda Niro

Yes.

Mark Fitzgibbon - Sandler O'Neill

And then, that was up a little bit, from 12/31? What was the number in 12 -- ?

Linda Niro

No, it was down -- 12/31, 1.52%.

Mark Fitzgibbon - Sandler O'Neill

1.52%, okay.

Linda Niro

Yes.

Mark Fitzgibbon - Sandler O'Neill

And then, could you give us a little update on those couple of commercial loans that you put a special reserve up against last quarter?

Linda Niro

Yes. Those, we actually have six loans that are classified as impaired. We've disclosed in our 10-K during the first quarter one of the impaired loans paid off, was sold. And so we have six remaining. Of the six, three have specific reserves attached to them and it's still the $2.9 million that we disclosed last quarter. The other three are collateral, dependent and there's no reserve associated with them.

Mark Fitzgibbon - Sandler O'Neill

Okay. And then secondly, with respect to the margin, could you share with us what the monthly margin looked like during the course of the quarter and maybe share with us what your outlook is for the margin in coming quarters?

Linda Niro

Our monthly margin was about 280. However, the margin is going to expand slightly during the second quarter. As we see deposits repriced down, we've demonstrated we've had the ability to go in and reset some of these deposit rates down certainly on money market-type accounts and retain customer accounts and we've also had the ability to go in and reprice some maturing borrowings down significantly, around 150 basis points downward. We're looking for some more expansion of the margin in the second quarter.

Mark Fitzgibbon - Sandler O'Neill

Now, you said the margin was 280. Were you referring to the month of March?

Linda Niro

Yes.

Mark Fitzgibbon - Sandler O'Neill

Okay. So, it was actually lower in March than it was in the first --?

Linda Niro

It was. We have some internal fluctuations and I will say we're looking for it to expand a little bit.

Mark Fitzgibbon - Sandler O'Neill

Okay. And then, Paul, you mentioned some new retail products. Could you maybe share with us what those are or have you not publicized what they are yet?

Paul Pantozzi

We had a product break this past week that talks about a smart checking product and the details are out there. We also have a flexible home equity line of credit that is convertible to a fixed rate product at the customer's option. And those are two consumer products that we feel will get the attention of the market and help our branch system deliver on their goals and certainly attract some new and profitable business.

Mark Fitzgibbon - Sandler O'Neill

Okay. And then, I didn't see it in the press release, but what is the risk-based capital ratio at the end of the quarter?

Linda Niro

We don't have those numbers yet, Mark. They'll be in our 10-Q.

Mark Fitzgibbon - Sandler O'Neill

Okay. That's all I have. Thank you!

Linda Niro

Thanks.

Operator

Our next question comes from Michael Cohen of SuNOVA Capital.

Michael Cohen - SuNOVA Capital

Hi, thank you for taking my question. Maybe to try to get a little more specificity out of you on margin and maybe in the back half of the year in light of the fact that 50% of your assets or so are variable rate, but then obviously that implies 50% are not, and you're talking about a potential 150 basis point repricing of your deposits. How much improvement can we see in margin? Is there a reasonable [bound] that you could give us?

Linda Niro

First I'll just clarify, the 53% that I've referred to was strictly in relation to the commercial portfolio being adjustable or floating.

Michael Cohen - SuNOVA Capital

Okay.

Linda Niro

With regard to the total loan portfolio, it's 45% adjustable or floating. And as rates come down, we're seeing a little bit of traction on the liability side because pricing seems to be coming more in line from a competitive standpoint, so our ability to reprice downward a little bit more quickly we've been utilizing that to our advantage. So with regard to a range, I would say near-term 3 basis points expansion.

Michael Cohen - SuNOVA Capital

I'm more looking out sort of over the course of maybe sort of a 12 month time period, looking into the third and fourth quarter and maybe into next year. And I know that requires you to look a little bit in your crystal ball, but knowing what you're maturity schedules are, what are your budgets showing?

Linda Niro

Again, we'd probably see about five basis points. It's really going to depend on how quickly we can move down deposit pricing.

Michael Cohen - SuNOVA Capital

Okay, great. And then on the asset quality front, it sounds like you guys had a pretty good quarter. Has that continued through into April?

Linda Niro

We're not seeing anything at this moment that gives us any more concern than it did at the end of March.

Michael Cohen - SuNOVA Capital

Great. Thank you for taking my questions.

Linda Niro

You're welcome.

Operator

Our next question comes from Matt Kelley of Sterne Agee.

Matt Kelley, Sterne, Agee & Leach

Yes, just to follow-up on the credit quality during the quarter and the charge-off. It appears that the first quarter was a bit of a clean-up, kind of getting rid of some of these credits. You took your lumps and moved them out of the portfolio and the 11 basis points and charge-off up from five basis points in the last two quarters would reflect that. Would you classify this as kind of a potential run rate or was this quarter kind of more unique as you got those out the door?

Linda Niro

Matt, it's so hard to really predict that with regard to some of the loans that we have in impaired status, it just really depends on what's coming down the pike. If nothing changes, I would say it's a good run rate.

Matt Kelley, Sterne, Agee & Leach

Okay, all right. Thank you.

Operator

(Operator Instruction). We show no further questions at this time. I'd like to turn the conference over back to Mr. Pantozzi for any closing remarks.

Paul Pantozzi

Okay. I thank you very much for being with us today and we'll look forward to hearing from you again at our next quarter's call. Thank you.

Operator

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

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