Primis Financial Corp. Q4 FY2024 Earnings Call

Good morning. My name is Audra, and I will be your conference operator today. I would like to welcome everyone to the Primis Financial Corp. Fourth Quarter Earnings Call. Today's conference is being recorded. All lines have been muted to minimize background noise. After the speakers’ remarks, there will be a question-and-answer session. I would like to turn the conference over to Matthew Switzer, Chief Financial Officer. Please go ahead.

Good morning, and thank you for joining us for Primis Financial Corp's 2024 fourth quarter webcast and conference call. Before we begin, please note that many of our comments during this call will be forward-looking statements, which involve risk and uncertainty. There are many factors that could cause actual results to differ materially from the anticipated results or other expectations expressed in the forward-looking statements. For further discussion of the company's risk factors and other important information regarding our forward-looking statements, please consult our recent filings with the Securities and Exchange Commission, including our recently filed earnings release, which has also been posted to the Investor Relations section of our corporate site, primisbank.com. We undertake no obligation to update or revise forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events, or changes to future operating results over time. In addition, some of the financial measures that we may discuss this morning are non-GAAP financial measures. How a non-GAAP measure relates to the most comparable GAAP measure will be discussed when the non-GAAP measures are used if not readily apparent. I will now turn the call over to our President and Chief Executive Officer, Dennis Zember.

Thank you, Matt, and thank you all for joining our fourth quarter conference call. First off, let's start with a discussion about why we moved this portfolio into held for sale and what the impact of that decision was financially. Moving this portfolio into held for sale allowed us to market significantly enough that we can modestly neutralize the credit cost and position it to be moved off the balance sheet. We are serious about moving on a host of strategic options, like we said in the press release that would realize the market value of our company, and no real strategic option is available to us until this book is held for sale and/or sold. I believe having it marked like this lets our company focus on all of the strategies that we've outlined and even more to succeed. Had we orchestrated this exit alongside the deconsolidation of Panacea, we would have improved tangible book value and our company's strategic future. And I really wish we could have orchestrated that in just one quarter. But the fact is we could only do half of that this quarter, and we're working on the other half right now for what we believe we can handle in the first half of 2025. So the decision here was either to slog through a couple more quarters with lower earnings or just take the hit, position us to shed this book as soon as we can, and push the kind of operating ratios that we believe would be noticeable. In the end, I believe we made the right decision so that 25% could be cleaner. I obviously see real value in our company that has not been recognized, partially because we haven't been selling as hard with last year's delayed filings and some because of the noise of this consumer book. I want to go over some of the value, some of the hidden values real quick. At December 31, 2024, our core bank had $2.1 billion of core deposits with a cost of deposits of only $1.87 billion at year-end. That's 25 basis points to 50 basis points lower than some of our larger $25 billion peers, and it's easily 100 basis points lower or more than our comparably sized community bank competition. Better yet, our core bank has very enviable levels of CRE, and we have very reliable credit quality. Over the last five years, we've grown core deposits slowly but surely, but we've only focused on core relationships, and the result is this significant pricing advantage. The digital strategy, of course, has higher rates. But if my community bank has a cost of deposits that's 100 basis points lower than my competition, you have to attribute some of that to a digital strategy that led us to be this laser-focused in the bank. We've achieved all of this while consolidating our branch footprint from 42 to only 24 branches, rolling most of those customers into V1BE and achieving a 95% retention rate through all the consolidation. Even better on the lending side, we ended the year with a pipeline that was twice as large as the prior year, and over 80% of that volume is coming from new customers to the bank. I don't mean new money to existing customers; I mean, brand new customers that have never banked with us. Our model in the bank is profitable and clean and positioned in very good markets. On the digital side, we have a remarkable offering with one of the nation's only fully digital full-service checking accounts that's grown to about 18,000 customers. But if we can't drive the results, the margins, and the operating ratio improvement, then really, it's not valuable. Last year, our Life Premium book yielded 6.47%, and our digital deposits cost 5.07%. So we only had 140 basis points of margin. I mean, both of these are very efficient platforms. But collectively, that just didn't provide a meaningful bottom line. If you fast forward to right now, we've reduced the rate on those deposits by 75 basis points, and we've moved higher on the asset side by about 200 basis points with mortgage warehouse. Essentially, we are positioned to push margins in the 3.25% to 3.50% range on this national strategy with efficient platforms and safe short-term asset strategies. The fact is this isn't fully at scale yet. But as we build the book on warehouse and construction perm, we will see progress and the results in 2025. Our mortgage division has been consistently growing production 30% to 40% when you compare any month to the prior year. Assuming no scenario where rates fall and volumes move higher, our mortgage company will still produce results that impact our ROA by 10 to 15 basis points. We've built this slowly over the last few years, moving from $250 million of production to over $1 billion. We could absolutely step on the gas this year with recruiting, but we are cautious and stingy with signing bonuses and instead are working on organic strategies like the national construction term offering. Lastly, Panacea, our division focused on doctors, vets, and dentists, has grown to just under $435 million in total loans and impressively reached almost $100 million in low-cost funding. These growth rates are around 30% to 40% and are only accelerating as we move into the end of the year, where we believe we have a chance to reach 10,000 clients. The banking division is very profitable with an ROA that's accretive to the bank's overall ROA and the parent company, PFH, where we have significant unrealized value that continues to innovate solutions for doctors that have high adoption rates and make them customers for life. There are $100 billion banks in our country with fewer doctor clients than we have. And I dare say there isn't a bank in the US with a more innovative way to capture the lifetime market value of a doctor client than Primis and Panacea have brought. Matt will discuss in more detail and give you his reconciliation, but I'd leave you with this. Our moves in the fourth quarter neutralized $20 million of credit costs. As of today, we're about $5.5 million better annualized in net interest income from the combination of lowering deposit costs and selling Life Premium. That number moves to about $17 million annually once warehouses are at scale in 2025, and there's only $1.5 million more of incremental operating expense to achieve this. Mortgage values are strong and still growing, and most importantly, our core bank is our central focus for values and profitability. As I stated in the beginning, we are focused on all of the strategies that would realize the market value in our company. This starts with cutting out the noise and just posting the kind of results that we know the bank can achieve. It feels like a massive task to have done this, but limping along, trying to outlast it was not a good strategy. I'd just rather take my loss like we did and find new ways to work even harder to succeed, and we are positioned to do that. Matt, with that, I will turn it over to you for your comments.

Thank you, Dennis. As a reminder, some of our financial results can be found in our press release and investor presentation, both of which can be found in our 8-K filed with the SEC. In those materials, you will find a discussion of recent trends in quarter-over-quarter comparisons. Given the noise from various initiatives this quarter, both offensive and defensive, my remarks this morning are going to focus on interpreting the associated adjustments to articulate the core profitability of the bank, which is closer to $10 million of pre-tax income versus the loss reported. On a pre-tax basis, when you exclude the consolidated pre-tax loss from Panacea Holdings, we reported a loss of $17.4 million. The following items are included in this loss related to the consumer program cleanup. $20.8 million of provision for the consumer loan book for the fair value mark and additional provision for the smaller portion that was not moved to held-for-sale. $2.5 million of interest reversal related to charged-off consumer loans and $1.25 million of fraud losses on consumer loans. Without these items, we would have made $7.1 million pre-tax. Other items that impacted the quarter were non-recurring in nature that we discussed in the earnings release include the following: $4.7 million net gain from the sale of the Life Premium Finance business; $1.8 million approximately of legal and accounting expenses related to restatements and other activities; and approximately $2 million of other expense items related to various initiatives or accrual activity that we can't lump into the non-recurring item in the press release, but that are not expected to continue in subsequent quarters. After the net impact of these items, the bank would have made approximately $6.2 million pre-tax in the fourth quarter. This level of profitability is still below what we believe run rate will be due to the following drags. The Life Premium Finance portfolio was sold at the end of October and only partially replaced with mortgage warehouse in the quarter. The loss of spread on the Life Premium Finance portfolio was approximately $1.3 million, but is temporary until mortgage warehouse gets to scale later this year. We had approximately $50 million of promotional loans on average in the fourth quarter where we recorded no income. This cost us at least $1 million of revenue in the fourth quarter. Half of the remaining promo balances exit the period in the first quarter, so this drag will largely be eliminated soon. We lagged adjustments to rates on the digital platform due to a technology change that was planned for November. As a result, we didn't make our first rate adjustment until mid-December and another one in mid-January. This cost us another $1 million approximately of interest carry in the fourth quarter. Lastly, retail mortgage is seasonally slow in the fourth quarter and was a drag to pre-tax earnings of roughly $0.5 million, but will begin to flip back to profitability as we move through the first quarter and is projected to be meaningfully more profitable in 2025. If you adjust for these drag items, pre-tax earnings potential is closer to $10 million and before building in any growth or further margin expansion in 2025. These items are not hypothetical as they are based on strategic moves we have already implemented and will be realized in the first half of 2025. We appreciate it. It's very hard to parse through all these moving parts, but we believe the decision to tackle the consumer portfolio in the fourth quarter was the right one and positions the bank to have cleaner earnings and demonstrate the bank's true profit potential as we move through 2025 and our initiatives bear fruit. With that, operator, we can now open the line for questions.

Thank you. We will now begin the question-and-answer session. We'll take our first question from Russell Gunther at Stephens.

Hey, good morning guys.

Good morning, Russell.

Just if we could start on the loan growth outlook, given some of the puts and takes with exit verticals and new entrants. I think the deck also referenced the new construction; perm relationship is unlikely to contribute a lot this year. But maybe just start in terms of the net loan growth outlook you've got baked in for 2025?

Sure, I'll start. You can add more details later. Looking at the bank as a whole, this is likely the first year I've seen us entering with a solid pipeline and potential for loan growth that is primarily bank-focused. As I mentioned earlier, our core bank loan pipeline is now double what it was last year. So, can we expect growth in the bank? Definitely. I anticipate this year's growth to be between $125 million and $175 million, which is not quite in the double digits. However, we are not heavily concentrating on investor CRE; our focus is mainly on owner-occupied CRE and commercial & industrial loans. We are pursuing new relationships, not only tapping into existing customers for new funds but also seeking new customers to help increase our checking accounts. Life Premium Finance is no longer part of our numbers for the end of the year. We expect our mortgage warehouse to grow significantly, roughly equivalent to the value we previously disposed of, which could add around $300 million by year-end. The potential there is much larger; our team had previously more than doubled and even tripled the outstanding amounts before we halted funding. This year, however, we are primarily focused on replacing Life Premium. Panacea will likely have fluctuating growth. It presents opportunities in the capital markets, particularly in securitizing loans and forward flow agreements. I believe Panacea might see some growth in the first quarter, and then we can expect to realize more potential in the secondary market, especially with some of our doctor customers.

All right, Dennis. Thank you. That's really helpful. And then maybe just switching gears to the margin. So a similar question, just given the entries and exits of lending verticals, you talked about $325 million to $350 million for the margin over time. Maybe just give us a sense for the cadence and where you would expect to exit this year, Q4 2025?

I think we should be closer to the upper end of that range. I mean, as we roll off the Life Premium Finance book, and it will be spread over the year, but in terms of the buildup to that margin. But we exited the fourth quarter with a 3.18% margin, if you add back the interest reversal in the fourth quarter and that was before reduction in rates. The Life Premium Finance book, on a core basis, does have reasonable yield. So that will go away, but that will be replaced by Mortgage Warehouse and Construction-Perm. I think you might have said we wouldn't see Construction-Perm this year. We fully expect to see some Construction-Perm lending this year and probably a noticeable amount, and that comes with good yields on it and then the continued reduction in deposit rates. So I'm expecting margin expansion in the first quarter and then kind of ticking up through the year as all those different business lines build up volume.

I'd also like to mention that we achieved solid margins last year, especially compared to our competitors, with about 30% of our funding coming from the national platform. However, our asset strategy was quite limited. Despite those margins, the performance on the digital side was slightly below 2%, which we've taken steps to correct. When Matt and I model net interest income and net interest margin, we notice we currently lack the desired level of checking account balance. According to our model, as Matt mentioned, we are leaning towards the higher end of that range. Matt's presentation indicates that, assuming we maintain our current position, all of our asset repricing for the year will positively impact interest income. We are not in a situation where rates have decreased to a point where we anticipate a decline in interest income; rather, we continue to see the potential for growth on most of the renewals.

Okay. Great. Thank you for both the help on the outs and takes to the NIM. And then with the consumer exit, what should we be thinking about in terms of core kind of net charge-off and provision levels?

Our core charge-offs this quarter was like five basis points. So we're not seeing a whole lot of charge-off activity outside of the consumer book. So call it, 5 to 10 basis points here in the near-term. And then provisioning levels should still be relatively modest because if you think of the biggest drivers of balance sheet growth, probably the largest incremental volume is coming from mortgage warehouse. And the reserve burden on that business is very, very low. I think we're modeling like 15 basis points, which is arguably still too high. But a similar level of reserve coverage as the Life Premium Finance book had. So probably maybe $1 million a quarter of provision covering charge-offs and covering some incremental growth.

Got it. Okay. Great. Thanks, Matt. And then guys, last one for me. Just looking at the bigger picture. The release mentioned the potential for the Panacea deconsolidation and recognizing that gain. I think it also mentioned whether you think it's more than the last valuation of roughly $20 million. Can you quantify any upside to that estimate today? And then just provide a sense of what the pro forma tangible book is expected to look like with that recognized.

I wish I could confidently provide a specific number. I can say for sure that it won't be less than what we achieved last time. The strategy for Panacea's growth involves developing products, services, and solutions that extend beyond loans and deposits, addressing everything necessary to fully realize the financial value of a doctor client for life. The progress we've made since December 2023 and continuing through the middle of this year is significant. I know the value is present, and there is enthusiasm for what they're doing. I've seen the results. Honestly, we could have deconsolidated that last year, but doing so would have required us to transition many bank employees into that entity. We were hesitant to take that risk, worried about potential implications related to banking as a service, even if we didn't believe it would occur. However, as time has passed and PFH has grown stronger, I don't think the risk of banking as a service is as significant anymore. Thus, we can likely consider deconsolidating it. This isn't about reducing our stake or monetizing it; it's simply about deconsolidation. The safest way to achieve that is to transfer some employees and services to that entity.

Guys, that’s it for me. Thanks for taking all of my questions.

Thanks, Russell.

We'll move next to Christopher Marinac at Janney Montgomery Scott.

Hey, thanks. Good morning. Can we go back to the consumer loan sale? And Jimmy, just a one more recap about the loss there. Is that more timing-based from an accounting standpoint? And is there potential to recoup some of those losses? I just want to go back to the history of these kind of having credit enhancements along the way.

We're not modeling a whole lot of recovery on this, Chris. I mean the unfortunate fact is, I mean, if you look at the charge-offs, the core charge-offs that we reported, I mean, there was significant charge-offs in the quarter on the book in addition to the charge we took to move it to fair market value. So our intention is to get out of this portfolio as soon as possible, which is part of why we moved it to held for sale. So that's unlikely to result in a big recovery on that charge, maybe a small amount, but not something that we're necessarily counting on. While we're going through that process, there will still be some income on the portfolio, though. So it's not to say that it's sitting there in held for sale earning us 0, but we're not assuming a big portion of that $20 million fair market value adjustment comes back.

Got it. Okay. So at the end of the day, this is more a strategic decision to exit and move on to your other core business lines?

Exactly.

Yeah. Okay. And then on the strategic sort of front, is there anything else on the strategic review that you've done? And just that was the beginning of the press release last night, and I just wanted to verify if there's something else down there or have we seen the strategic changes and now you're executing on the core bank from here?

Strategically, there are several initiatives underway. We're not solely relying on revenue to drive improvements; we're concentrating on enhancing expense efficiency. One aspect we haven't integrated into our projections is the potential for a strategy that could lead to lower funding costs on the digital platform. Currently, we're looking at a spread of 325 basis points on digital. If we were to increase our incremental funding through checking accounts by just 10%, we could approach 4%. While this isn't reflected in our models yet, we’re actively pursuing strategies to realize it. On the core banking side, this is the first time we feel confident that it can significantly impact our results. Consequently, we are aggressively recruiting new lenders in our markets, and some disruption is likely to facilitate this. Opportunities are emerging, and our focus remains on recruiting more effectively at the core bank and increasing the number of checking accounts through the digital platform.

Great. Thanks for that Dennis. And I guess that leads to my follow-up question on deposits. I mean what would you say is the mix of deposits a year or two from now? Or where would you like it could be in terms of the digital bank versus the core bank, just thinking about the $2 billion and change at the core and the roughly $1 billion of the digital?

We would likely see around $2.5 billion at the core bank in two years. Our focus will remain on maintaining strong relationships and not pursuing aggressive growth strategies. Given our efforts in commercial relationships and new business, I believe we can aim for a 10% annual growth, reaching approximately $2.5 billion. There's no need for significant growth on the digital side; instead, we need to adjust our current $1 billion to ensure a better mix, with about 20% coming from lower-cost funding. Our main goal is to refine the mix and enhance profitability before considering a substantial increase in size.

Got it. And that evolution on the mix has already started with the last quarter, really last two quarters as those costs have come down.

Yes, yes, correct.

Got it. Okay. And then on Panacea, I know you talked a lot about this already with Russell's questions, but I just wanted to, I guess, ask: a, should the deposits grow at Panacea; and then b, where do you see the Panacea beyond doing some of the deconsolidation moves that Matt talked about, where do you see that in terms of size and contributor to earnings looking out a year or two?

I believe the contributor to earnings will be more profitable this year compared to last year. We don’t want Primis' balance sheet to be overwhelmed by their business, as it benefits both of us to maintain alternate sources. I don't think we're at the peak of profitability yet, but we’re likely just $1 million or $2 million away from it. The potential for increasing deposits is very tangible. Our strategy centers on leveraging technology, particularly as we engage with a network of 10,000 doctors who have minimal branch experience but maintain significant checking accounts and various ancillary services. This technological focus has already yielded results, especially in the fourth quarter, with new deposit technology arriving on the doctors' devices and contributing to immediate deposit growth. Panacea excels in promoting commercial checking accounts, with an average balance of $75,000. They also offer a range of ancillary treasury services and have real-time support from bankers. While we can't rely solely on deposits to fund their entire balance sheet, there is potential to increase the deposit ratio from about 25% to 30%, 35%, or even 40% over time.

Great. Thanks a lot, Dennis and Matthew, I appreciate it. Very helpful.

Thanks, Chris.

And that concludes our Q&A session. I will now turn the conference back over to Dennis…

….all day today, and we'll be at the Janney conference tomorrow. If you have any questions or comments, we are available. All right. Thank you. Have a good day.

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