Preferred Bank Q2 FY2024 Earnings Call

Good afternoon, and welcome to the Preferred Bank Second Quarter 2024 Earnings Conference Call. Please also note today's event is being recorded. This time, I'd like to turn the floor over to Jeff Haas of Financial Profiles. Please go ahead.

Thank you very much. First of all, I'd like to apologize to all of you for pulling you away from the opening ceremony. And thank you for attending the conference. I'm very pleased to report that Preferred Bank second quarter net income was $33.6 million, or $2.48 a share. This quarter, we have an annualized 8% loan growth and an annualized 5% deposit growth. For the quarter, we have $9 million charge-off. The charge-offs are related to the loan that was previously fully reserved as of the previous quarter. And we had an increase in non-performing loans of $22 million. I have included some details in our press release for your information and for your review. We believe these non-performing assets are either fully reserved or adequately protected by the collateral, and the resolution of these non-performing loans will not likely cause any significant impact to our future earnings. It's worthwhile to point out the root of the loan losses came from the pool of criticized loans. This actually has reduced $13 million from the previous quarter, and the migration pattern also seems to be improving. We have always been fairly consistent with the operating non-interest expense and non-interest income. Going forward, I am not seeing any significant changes to these factors, and we have been working to reduce the asset sensitivity of our balance sheet. We believe we're not far away from what we see as the optimal level for us. And the much anticipated and hoped-for interest rate relief will not likely cause significant effects to our future income statements. A year ago, the bank announced a buyback program of $150 million. For the past 12 months, we have repurchased $72.5 million of our own common stock. The regulatory approval for the program has expired. We are now seeking reapproval or extension for us to be able to repurchase the remaining $77.5 million. I'm pleased to report with the $72.5 million repurchase, with the $2.80 a share dividend, and with reasonable growth in loans and deposits, the bank's TCE ratio actually improved by 53 basis points, just as we have planned. We attribute this to the bank's earning capability. Thank you very much. I'm ready for your questions.

Hi, thanks. Good morning, everyone. Just one on the margin. We've got the adjustment for the interest income reversal. But do you have the spot rate on deposits at the end of June and the average NIM in the month of June, excluding that reversal?

Yes, the margin for June is 3.89%, and the total cost of deposits is 4.08%, which has remained consistent for a few months now. I believe we've reached the peak there.

Okay. So the 4.08% for the month of June in total and the 3.89% includes that 11 basis point reversal?

No, does not. That did not happen in June. That happened in May.

Thank you. Could you clarify your comments about reducing your asset sensitivity? How much of your portfolio has floors? Where are they located, and how would you assess your position with each 25 basis point rate cut?

We have a detailed floor analysis, later on we can provide you with. But in general, I'd like to say that during the past 12 months, or maybe as much as 18 months, we have reduced our floating rate loans. Actually, the fixed-rate loans have increased from 11% to right now approximately 25%. So, the floating rate assets or floating rate loans have reduced likewise by about 14%. So, this is actually what we have done. And we look at comparing our balance sheets, the sensitivity of our liabilities, okay, you can see that we're in a generally pretty balanced position.

Okay, great. And then on expenses, maybe for you, Ed, it looked like there was a comp accrual reversal here in 2Q. Just can you quantify that and then give us a sense for the run rate going forward here in the second half?

Well, in terms of non-interest expense, we came in a little light than I think, what I had previously guided to. We had a decrease on the salary and benefits side, primarily due to payroll taxes on the bonus, incentive compensation, which is paid out every Q1. So, going forward, looking at it, I would still keep the same guidance between $20 million and $20.5 million, Matthew.

Okay, thank you. Okay, I'll leave it there. Let others ask questions. Thanks.

Thank you.

Hi, good morning and thanks, Matt, for letting me slide in here. Can you talk about the $18 million hotel loan you mentioned, 51% LTV? Can you just talk about when the last appraisal or valuation came in on this property?

I think the valuation is a little bit over a year ago when the hotel property is still undervalued; the value has actually improved. The reason that I want to say to you is that we are the unfortunate party that got caught in the partnership fight. There's a money partner who owns 99% and the work partner owns 1%. Both of them, obviously, many dear together, they're starting to fight with each other. The money partner really wants to buy the 1% off, and obviously, that deal has not been made. So, both sides are taking their positions. The non-accrual is positioned up; the money partner takes care and therefore, we're fully expecting to redeem the property at the foreclosure date.

Okay, understood. And then if I could just ask on the kind of asset sensitivity position. Here you are on the kind of 75% floating. And that mix has obviously come down. So helps for future rate cuts. But the cash position, any interest in taking some of that and fixing it in the bond book? Just looking at the forward curve with several rate cuts in there right now?

I don't expect we would make any significant changes, Andrew. There may come a time when we want to invest some money, but I wouldn't anticipate a large investment in anything. We prefer to keep both sides of the balance sheet relatively short.

Yes, makes sense. Any thoughts on kind of incremental? I mean, your loan growth was pretty solid in the quarter. What are you seeing from a borrower demand standpoint and how should we think about loan growth in the back half of the year?

Andrew, can I take a little bit more time to answer that question for you? First of all, in the first quarter, when the country believes in the six cuts, we see the loan demand actually go up. Many people want to commit to new investments, and these loans come to fruition in the second quarter. Usually, it takes a lag time of about three months to get loan deals done. And in the second quarter, when the country believes there are no more rate cuts, the demand is reduced. So, we are seeing that possibly at the end of the third quarter, the loan growth will be limited. Although we are working hard to get more loans, the demand is not as high as the first quarter. As we are now anticipating rate cuts again, we think that at the end of the fourth quarter, there will likely be more increased loan production.

Okay. So, maybe a little bit slower near term, but to the extent that rate cuts start to come in, maybe improvement late in the year into 2025?

Yes. We do see that. As rate cuts happen, we like to think we can get in closer to our historical growth rate.

Very good. Okay. Thank you for taking the questions. I'll step back.

Thank you.

Hi, good morning. Ed, hoping you could provide some of that data on the loan floors, say, after 50 basis points or 100 basis points of rate cuts.

Sure. Currently, 21% of the floating rate loans have floors, and 98% of the floaters are in that category. Out of this, 21% is within 100 basis points, while 79% is beyond that threshold. This percentage is steadily increasing each month as loans are being renewed.

Got it. Thank you. And then I guess the natural other side of that question is just updating maybe the third quarter and fourth quarter CD maturities and kind of where your renewal rate sits right now.

Yes. Q3, we have about a little under $1.2 billion maturing. And Q4, we have just almost exactly $1 billion maturing. Those are at average rates right around 5% each. So, we would expect some relief in the coming quarters as rates have started to come down.

Great. Thank you.

Hi, this is Eric down in for David Feaster. Thanks for taking the questions. Just wanted to touch on the deposit side of the coin and get a sense of trends in the quarter, especially how non-interest-bearing core deposits trended later in the quarter into 3Q. And your thoughts on core deposit growth. I think growth is going to come from existing clients versus success on new client account growth; any color there would be helpful.

I'm sorry, you're going to have to repeat the question a little bit. It was hard to hear a little bit of that, please.

Just wondering on the deposit side of the coin whether you get a sense of just trends in the quarter. What were the drivers of core deposit growth? Talk about how it's shaping up early into 3Q and if you expect growth from existing clients versus whether you're having success attracting new client account growth.

Sure, I’ll give it a try. Firstly, the non-interest bearing deposits seem to have stabilized, reversing the previous trend of decline starting in June. The growth for the quarter primarily comes from core deposit growth rather than brokered or institutional deposits. Regarding pricing, it appears to have flattened or reached its peak in terms of our cost of funds. Looking ahead, while predicting deposit growth is challenging, I believe our efforts, including new offices and personnel, will lead to most of our growth coming from new clients rather than existing clients simply increasing their balances.

Got it. That's helpful. And then interest-bearing demand balances seem to increase pretty meaningfully. Can you just talk about whether that growth was from existing clients or is that migration? I'm just curious what rates are there?

That's a combination of both. We do see people moving from non-interest bearing to interest-bearing due to the rate environment, although that migration pattern seems to have slowed down significantly.

Got it. And then lastly, just on capital priorities, and then I'll step back. You've been active in repurchasing stock. You increased the dividend this past year. Just curious how you view buybacks in light of your improved currency. I'm just curious your thoughts on further de novo expansion opportunities and just kind of general commentary on capital priorities would be helpful.

Well, as always has been the case for us, our primary focus first on capital allocation is organic growth, second dividends, third buyback, and fourth would be anything from a strategic standpoint. And I don't think that's really changed at this point. The repurchase we did most of it occurred during the latter part of 2023, at an average price of just under $60. With where we're trading at today, we're going to be a lot more circumspect about going forward on the repurchase. Hello, are you there?

That's helpful. Thanks for answering my questions. I'll step back.

Just wanted to ask about the net charge-offs and how much of that $9 million was related to those two C&I loans. It seems like that's where the losses were incurred. I know they were previously reserved against, but just wanted to get a sense for how much of that was tied to those two loans. And if you could give us some more color as to the types of credits those are other than being C&I and kind of what the resolution process looks like?

Well, the charge-offs, roughly $7.5 million of the $9 million related to these - to the one C&I loan. So basically, that's a charge-off for me. Well, I guess - related to previously resolved real estate loans.

Okay. But the types of - the business, I guess, that these - the two businesses that these are related to? I'm just trying to get a sense for what types of numbers these are.

It's not related. They are vastly different businesses.

Okay. Sounds good. And then just back on the question about the CD repricing and kind of what's coming up for renewal? Are the renewal rates 5%? Or that's what they're maturing at? I'm trying to get a sense for kind of the differential?

Yes. No, they're maturing at 5%. And as we see market rates and our offered rates starting to come down, that's why I think we're - as I said, we're at the apex here.

And your - what's your current offering rate? Where are they starting to renew this month?

Depends on the term. It goes anywhere from the 3s up to five, but that's a longer term, and that's definitely not picked by our clients.

Okay. Sounds good. Thank you.

Hi. Thank you. If I could just follow up again on the C&I charge-offs and take another stab. Just can you talk to what specifically drove the deteriorating fundamentals of the companies for the loans that you charged off? Just trying to get a better sense of what happened there.

Well, Nick, do you want to take that question?

Yes. This credit actually - there should be some recovery later on because we are waiting for some of the litigation process because one of the loans we have arbitration coming up either in the third quarter or early part of the fourth quarter. So the loan is fully guaranteed by an individual grantor with very strong financial conditions. So that's one of them. And the other one, we do have the judgment on this credit, and we are doing post-judgment examination at this time. So hopefully, for both of them, we can get some recovery from the quarters coming.

As you can see, we have fully reserved everything. Hopefully, the legal proceedings will yield positive results for us.

Okay. Thanks for the question.

Thank you very much. I believe I can speak for many of our industry customers in expressing hope for a rate cut soon. Personally, I feel that the Federal Reserve has not been proactive with the rate increases. At the very least, they should learn to be more proactive with rate reductions. This is more of a hope, perhaps a prayer. Many of our borrowers deserve to have lower interest rates. Thank you very much.

Ladies and gentlemen, with that, we'll conclude today's conference call and presentation. We do thank you for joining. You may now disconnect your lines.