Earnings Call Transcript - PROV Q2 2020

Operator, Operator

Ladies and gentlemen, thank you for standing by, and welcome to the Provident Second Quarter Earnings Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Instructions will be given at that time. As a reminder, today's call is being recorded. I'd now like to turn the call over to your host, Mr. Blunden. Please go ahead, sir.

Craig Blunden, Chairman and CEO

Thank you, Kevin. Good morning, everyone. This is Craig Blunden, Chairman and CEO of Provident Financial Holdings. On the call with me is Donavon Ternes, our President, Chief Operating Officer, 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, forecast of financial or other performance measures, and statements about the Company's general outlook for economic and business conditions. We may also 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 statement is available on the earnings release that was distributed yesterday, from the annual report on Form 10-K for the year ended June 30, 2019, and from the Form 10-Qs and other SEC filings that are filed subsequent to the Form 10-K. Forward-looking statements are effective only as of the date they are 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. In the most recent quarter, we originated and purchased $81.6 million of loans held for investment, a decrease from the $93.4 million in the prior sequential quarter. During the quarter, we also experienced $65.2 million of loan principal payments and payoffs, which is up from the $50.8 million in the September 2019 quarter, still tempering the growth rate of loans held for investment. For the three months ended December 31, 2019, loans held for investment increased by approximately 2% in comparison to September 30, 2019, with growth in single-family and construction loans but small declines in commercial real estate and multifamily loans. Competition for new loan production remains aggressive, but we were successful in augmenting our loan origination activity this quarter with single-family and multi-family loan purchases. We're very pleased with credit quality and even note that stage delinquency balances were just $986,000 at December 31, 2019. In addition, nonperforming assets remained at very low levels and are now just $3.4 million, which is down from $6.1 million at December 31, 2018, a 43% decline during the course of the year. We recorded a small $22,000 negative provision in the December 2019 quarter, resulting from low levels of nonperforming classified assets and meaningful charge-offs for many quarters. We're very pleased with these credit quality results. Our net interest margin expanded by 5 basis points for the quarter ended December 31, 2019, compared to the same quarter last year, as a result of a 6 basis-point increase in the average yield on total interest-earning assets and a 1 basis-point increase in the cost of interest-bearing liabilities. Our average cost of deposits decreased by 3 basis points for the quarter ended December 31, 2019 compared to the same quarter last year. Over the course of the past 12 months, we've been able to hold the line on the cost of core deposits, highlighting the strength and value of our deposit franchise. The 3.59% net interest margin this quarter was augmented by approximately 7 basis points as a result of a decrease in amortization of the net deferred loan cost associated with loan payoffs in the December quarter in comparison to the average of the five previous quarters. In addition, our net interest margin remained at the top end of its range compared to our recent prior quarters. Our noninterest expenses have declined significantly as a result of scaling back our operations regarding the origination of sale of single-family mortgage loans. Notably, our FTE count on December 31, 2019, was 184 compared to 349 FTE on the same date last year, and we have 10 fewer loan production offices and one less retail banking center in comparison to the same time last year. As a result, operating expenses declined approximately $7.6 million in the current quarter compared to approximately $10.9 million in the same quarter last year. Additionally, on a sequential quarter basis, operating expenses were essentially unchanged after adjusting for the $296,000 partial revision of a previously expensed legal settlement in the September 2019 quarter that was not replicated in the December 2019 quarter. Our short-term strategy for balance sheet management is unchanged from last quarter. We believe that releveraging the balance sheet with prudent loan portfolio growth is the best course of action. We exceeded well-capitalized capital ratios by a significant margin, which must allow us to execute on our business plan and capital management goals without complications. Although our repurchase activity was limited to approximately 2,400 shares of common stock in the December 2019 quarter, we continue to believe buyback activity is a wise use of capital. And we currently plan to continue to execute substantial returns of capital to shareholders in the form of cash dividends and stock repurchases. We encourage everyone to review our December 31st investor presentation posted on our website. You will find that we've included slides regarding financial metrics, asset quality, and capital management, which we believe will give you additional insight on our strong financial foundation, supporting the future growth of the Company. We will now entertain any questions you may have regarding our financial results. Thank you. Kevin?

Operator, Operator

[Operator Instructions] We do have a question from the line of Kevin Swanson. Please state your Company name, sir.

Kevin Swanson, Analyst

Hovde Group. Hi, guys.

Craig Blunden, Chairman and CEO

Hi, Kevin. Good morning.

Kevin Swanson, Analyst

It looks like you guys kind of nailed the rough guidance on expenses for the quarter. Just kind of curious how you see that moving throughout the year in light of some of the movements that you talked about. Thanks.

Craig Blunden, Chairman and CEO

I think the $7.5 million number per quarter is a relatively safe forecast. I do think we have some opportunity there, as we adjust our business lines and as we adjust what we're doing on the origination side of the business for the portfolio. There's probably not much room as it relates to the deposit side of the business, branch activity, and the like. We don't have any plans to close a branch or anything of that nature. So, the deposit side of the business is probably pretty set. But I think there's a little bit of opportunity. But it's not going to be a significant number, if you will. We think the way we are structured on an FTE count and in the business model, we can grow assets without increasing expenses as a result of that, increasing net interest income creates some positive operating leverage on that basis.

Kevin Swanson, Analyst

And then, question on the margin. I think you guys are maybe up 5 bps from the same quarter last year. And then, kind of at least the cost of funds was about steady. And we consider the Fed movements as well including that year. How are you going to see the margin playing out this year under the assumption that maybe the Fed does something later on down the road?

Craig Blunden, Chairman and CEO

Well, I think for us, with respect to where we are in the margin, it's going to be largely dependent upon what the yield curve does. Recently, we just inverted again, I think from 2 to 10s, or 3 to 10s as a result of the flu virus scare. We have come of the reversion later on in the fourth quarter, and we saw a steepening of the yield curve. And that ultimately helps us because we're lending in the five to seven-year area, and we're probably funding ourselves in the six-month to two-year area. Anything new coming on the balance sheet is essentially at a lower spread than what our existing balance sheet looks like. So, that's going to give us some margin compression, probably. But that's all mitigated to some degree by the adjustable nature of the portfolio to the extent that there are floors in many of our loans. So many of our loans are multifamily and commercial real estate; they all have floors. Right now, there's about $370 million of that portfolio that is floored. Irrespective of what rates do, those rates will remain the same if rates were to come down from where they currently are. So, I think there's a little bit more pressure in net interest margin as we look out into calendar 2020. And I think that's reflective of where the industry is at. But in our particular case, we think we have some floors that are in place that will mitigate to some degree that pressure. And if the shape of the yield curve ends up steepening again, that will help us, as well as the industry.

Kevin Swanson, Analyst

And then, maybe just finally, you guys have put up some nice loan growth in the past couple of quarters, and the provisioning was still on the negative side. Just kind of curious, how you see credit cost going forward? Thanks.

Craig Blunden, Chairman and CEO

Well, credit quality is very good right now for the industry in general. And for us specifically, credit quality is excellent. And it's very difficult to see continued improvement from these very good levels. But we've seen here because non-performers have come down. I suppose non-performers could go to zero, and that would help. But we also have migration out of higher risk or higher factor loans into lower factor loans. So, to the extent that we have growth in the balance sheet, and loan growth would suggest that we would be provisioning for that growth. That's not necessarily the case, because we have migration within the different portfolios in our loans. And as a result of that, we might be freeing up provisions or allowance in one category that works to the advantage of growth in another category. Additionally, we keep recovering each and every quarter it seems a small amount, which is also providing an increase to the allowance without running through the income statement. So, we think credit quality is very good. Our outlook for credit quality remains very good. I think, as we think about 2020, the higher the growth rate in the portfolio, yes, potentially, we could be providing, but maybe not in an amount that one would think, because we also have rotation in our portfolios from higher factor or higher risk to lower risk.

Kevin Swanson, Analyst

Great. Thanks, guys. I appreciate the time.

Craig Blunden, Chairman and CEO

Thank you.

Operator, Operator

Thank you. Next question is from the line of Tim Coffey of Janney. Please go ahead. Mr. Coffey, your line is open, sir.

Tim Coffey, Analyst

Can you hear me now?

Operator, Operator

Yes.

Tim Coffey, Analyst

Okay, great. Good morning, gentlemen.

Craig Blunden, Chairman and CEO

Good morning, Tim.

Donavon Ternes, President, COO, and CFO

Good morning.

Tim Coffey, Analyst

I appreciate the commentary on forward-looking expenses. The expenses as a percentage of earning asset -- or rather average assets were in the 4% range when you have a mortgage business. These last two quarters, they've been in the high 2% range. Given your expectations for balance sheet growth, would you -- could you see that ratio coming below 2.5% in the next four quarters?

Craig Blunden, Chairman and CEO

Well, it depends upon the rate of growth. The limit that you saw in the December quarter, for instance, even though we have very good origination purchase numbers, at the same time, we have loan payoffs the highest in quite a few quarters; it was $65.2 million. So, the growth rate was tempered significantly as a result of those payoffs. Because of that, it's very difficult to understand, even though we're ginning up a pretty nice growth rate. If those payoffs continue to be elevated, we're not going to see the growth rate that we would like to see. Frankly, we're churning a little bit with respect to portfolio growth. So, the answer is, yes. We can see operating expenses come in from where they currently are as a percentage of total assets. But that's going to be dictated by the growth rate that we can gin up in our loan portfolios.

Tim Coffey, Analyst

Okay. I understand. Thank you. Given that rates have started to come down again, understanding that that has some impact on payoffs. But does this provide you an opportunity to remix your deposit book?

Craig Blunden, Chairman and CEO

I'm not sure that it gives us that opportunity, because all the way through the rising rate cycle, we essentially didn't change our deposit rates. Our deposit costs held very steady through the cycle. So now as rates come down on the short end, our deposit costs aren’t really going to come down. The opportunity that is there for us is funding earning asset growth. One of the things that was occurring when rates were rising were CD specials and the like by competitors who needed to fund their balance sheets. We weren't in that position at that time. We may be in that position now, because we want to grow the balance sheet. So, we would have an opportunity perhaps to put CDs on our books, a little bit higher rate than what our existing deposit costs are, but in a lower rate environment, so that the absolute cost probably doesn't go up like we saw when rates were rising.

Tim Coffey, Analyst

Okay. And then, as the competition -- your view of the competition for loans in the current rate environment, is that kind of where it's been in previous cycles where we have seen loan rates; you have seen that increased competition?

Craig Blunden, Chairman and CEO

Yes. This has been -- competitively speaking, this has been very difficult, both on the loan side and the deposit side. This extended cycle, economic cycle has put pressure on both sides of the balance sheet. We don't see that changing anytime soon. In fact, it could get a little bit worse as we think about lower interest rates and lower mortgage rates. So, we're kind of in that environment again right now. I think as a result of that, there are many borrowers who are looking to refinance. Our book of business is not going to be immune to that refinance activity, which I think generally speaking is kind of an industry dynamic.

Operator, Operator

[Operator Instructions] All right. We have no further questions in queue at this time.

Craig Blunden, Chairman and CEO

All right. Well, in that case, I want to thank everyone for being on our call. We look forward to speaking with you next quarter. Thank you.

Operator, Operator

Thank you. And ladies and gentlemen, this conference will be available for replay starting today at noon Pacific Time and will run through February 4th at midnight. You may dial the AT&T Replay System by dialing 1-866-207-1041 and entering the access code 2689092. International participants may dial 402-970-0847 and again that access code 2689092. And that does conclude your conference. We do thank you for joining. You may now disconnect. Have a good day.