Provident Financial Services, Inc.
Q4 2008 Earnings Call Transcript

Published: 29 Jan 2009

[Operator:]

Hello and welcome to the Provident Financial Services Inc, fourth quarter 2008 earnings conference 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) Now I would like to turn the conference over to Paul Pantozzi. Mr. Pantozzi.

[Paul Pantozzi:]

Thank you and good morning everyone. Welcome to our fourth 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 our other releases and SEC filings by accessing our website, www.providentnj.com or by calling our Investor Relations area 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. I want to begin with an overview of our operating results, after which I’ll ask Linda to take us through the financial results in more detail. I’ll then return with some concluding remarks before we open the call for questions. As outlined in our news release earlier today our earnings per share of $0.13 for the fourth quarter and $0.74 for the full year 2008 exceeded the result we posted the same period in 2007. However, the difficult economic environment did have a negative impact on our core operating results. The fourth quarter was characterized by strong loan growth, particularly in the commercial mortgage and commercial and industrial categories. We continue to see loan demand and we are making loans that meet our conservative credit quality standards and contribute to growth and net interest income. Approximately $2 million of the addition to the provision for loan losses was attributable to the growth in commercial loans outstanding. Especially in these troubled economic times two key elements that define the financial strength of banks such as ours, our asset quality in capital adequacy and I want to address these upfront. As to asset quality, the economic downturn that we are all experiencing continues to impact our loan portfolio and we experienced increase in non-performing loans in the fourth quarter. I want to emphasis however that a large of that impact is attributable to two credits to a single developer who was experiencing difficulty completing the projects. During the quarter these loans were placed on non-accrual status, which resulted in a reduction in interest income and three basis point reductions in our net interest margin. Approximately $2 million of the $8.5 million was provided for the loan loss reserve in the fourth quarter was attributable for these two loans. The balance of our loan portfolio has continued to perform well given the current level of economic stress. We closely monitor loan delinquency trends and while these have increased we have so far shown no sign of presenting that with a material change. Turning now to capital, as of December 31, 2008, our regulatory capital ratios continue to exceed all thresholds for us to be considered well capitalized. I’m also pleased to report that while many other banks have announced the suspension or reduction of the cash dividend for stock holders, yesterday our Board of Directors declared a quarterly cash dividend of $0.11 per share consistent with prior quarterly dividend. We anticipate that our capital position will continue to support profitable growth. As a result, after careful consideration we announced in November our determination not to participate in the capital purchase plan offered under the US treasury troubled asset relief program. These funds our designed to spur further lending efforts of participating banks, but is our belief that I think our fourth quarter loan growth bear this out, that we can responsibly meet the loan demand within our markets, without government assistance. I’ll now turn it over to Linda for a detailed review of the financial results. Linda.

[Linda Niro:]

Thank you, Paul. During the quarter, total loans increased to $148.6 million or 3.4%. The largest increase in the portfolio was in commercial loans, which increased $81.5 million during the fourth quarter. Commercial mortgage in multifamily loans increased $60.1 million; construction loans increased $4.3 million; residential mortgage loans increased $5.5 million and consumer loans decreased $2.4 million sequentially. Commercial loans as a percentage of total loans were 46.5% at December 31, compared to 44.7% of the portfolio at September 30, 2008. For the year ended December 31, 2008 total loans increased $230.5 million or 5.4%. Within the commercial loan category commercial mortgage loans increased to $169.1 million or just about 20%; commercial loans increased $41.1 million or 5.8% and the multifamily loan portfolio increased $28 million or 41.4%. Construction loans decreased $75.8 million to 24.5%. In addition residential mortgages increased $87.4 million year-over-year and consumer loans decreased $19.9 million. The ongoing deterioration in the economy, the residual effects of sub-prime lending and declines in real state values, continue to have an adverse impact on asset quality and the pace of sale for new construction projects in the fourth quarter. Despite these adverse trends there was significant lending demand and increases in the commercial sector of the portfolio contributed to the increase in the quarterly provision for loan losses, in addition to an increase in non-performing loans and credit downgrades. The quarterly provision increased to $8.5 million for the quarter ended December 31, 2008, compared to $3.8 million in the third quarter. Growth in the portfolio resulted in a $2 million increase in the required reserve and credit downgrades resulted in a $1.4 million increase. Net charge-offs during the fourth quarter were $4.1 million, compared to net charge-offs of 1.6 million in the third quarter. Total non-performing asset consisting of non-performing loans and foreclosed assets totaled $62.6 million or 95 basis points of total assets, compared to $38.8 million or 60 basis points of total assets at September 30. Non-performing loans increased $23.8 million in the fourth quarter to $59.1 million, primarily as a result of two land improvement loans totaling $21.2 million that became impaired late in the fourth quarter. Non-performing loans as a percentage of total loans increased to 1.31% at December 31, compared to 81 basis points in the trailing quarter. Total delinquency increased to $86.7 million or 1.92% of the loan portfolio at December 31 from $45.6 million or 1.04% of the portfolio at September 30. The net interest margin decreased seven basis point to 3.2% during the fourth quarter compared to 3.27% during the third quarter of 2008. The decrease in the margin was due primarily to a decrease of 15 basis points in the average yield on loans and a nine basis point decrease in the average yield on investment. The average yield on interest earning assets decreased 13 basis point sequentially to 5.38% compared to 5.51% in the trailing quarter. The reversal of interest income on non-accrual loans in the fourth quarter adversely impacted the net interest margin by 3 basis points. The cost of deposits decreased five basis and the cost of borrowed funds decreased 17 basis points sequentially, resulting in an overall reduction in the cost of interest bearing liabilities of eight basis points; the 2.47% from 2.55% in the trailing quarter. Total investments decreased $19.3 million during the third quarter to $1.21 billion and represented 18.5% of total assets at December 31, compared to 19.1% at September 30. The investment portfolio consists primarily of agency guaranteed mortgage back securities and bank qualified municipal bonds. There are no preferred, trust preferred or pooled trust preferred equities in the portfolio. The portfolio had a weighted average life of 3.42 years and duration of 2.9 years at December 31, 2008. Total deposits increased $90.5 million or 2.2% during the fourth quarter of 2008. Core deposits consisting of demand deposit accounts and savings accounts increased $56.7 million or 2.2% in the fourth quarter. Time deposits grew $33.8 million or 2.3% in the fourth quarter. At year end, core deposits as a percentage of total deposits were 63.7%. Non-interest income in the fourth quarter of 2008 decreased $791,000 or 10.2% to $7 million from $7.8 million in the third quarter of 2008. Fee income decreased $2.2 million due mainly to $2 million decrease in the market value of equity fund holdings and a decrease of $138,000 in deposits due. Partially offsetting the decrease in fee income, the company reported $83,000 in net securities gains during the fourth quarter, compared with net losses recorded of $966,000 in the trailing quarter. During the third quarter, net securities losses included other than temporary impairment charges totaling $1.4 million pretax recorded on a debt security issue by Lehman Brothers and the common stock of two publicly traded financial institutions. Non-interest expense increased $1.4 million or 4.5% to $33.4 million during the fourth quarter compared to $32 million in the trailing quarter. The increase in non-interest expense is due primarily to a $1.1 million increase in other operating expenses as cost related to attorney fees and loan collection expense associated with foreclosed assets increase. Compensation and benefit expense increased $411,000 or 2.5% in the fourth quarter, due to an increase in the variable compensation accrual of $1.4 million, partially offset by a $727,000 decrease in stock based compensation expense. Income tax expense decreased $1.6 million to $2.6 million in the fourth quarter, compared to $4.2 million in the trailing quarter. The effective tax rate was 26% in the fourth quarter of 2008, compared to 24.2% in the third quarter of 2008. The increase in the effective tax rate was primarily due to the utilization of capital losses on security transactions in the third quarter. With that, I would now like to turn it back over to Paul for his further comments.

[Paul Pantozzi:]

Thank you, Linda. As everyone is aware, we are in the midst of a period of economic uncertainty that is unprecedented with modern times. However, because of our adherence to the fundamentals of our business namely core deposit gathering, conservative loan underwriting, strong customer relationships, expense controls, balance sheet management, we believe that can continue to grow profitability and compete successfully throughout this period. In a few weeks we’ll begin marking of our170th anniversary as a financial institution, dedicate to serving the needs of our customers and communities. I’d like to take this opportunity to thank our excellent management team and employees who have made this milestone possible. With that, I’d like to turn it back to the operator for any questions you might have.

[Operator:]

(Operator Instructions) Your first question comes from Rick Weiss - Janney.

[Rick Weiss:]

I was just wondering, if you could talk a little bit about the increases that you’re seeing in the commercial loan demand? First, is that coming from C&I lending or commercial real estate. Also, have you done anything in terms of changing your pricing I suppose or any kind of underwriting standards?

[Chris Martin:]

This is Christ, Rick. We’ve seen it from all sides. The commercial real estate is definitely slow, but the commercial has done very well. We’re seeing a lot more opportunity that other banks have not been focused on that and we’re getting a chance to meet some very solid customers going forward. Pricing wise, I think again the competition is really not as heavy. We’re able to get a little bit better pricing than we have in the past, certainly adjusting for the risks in the market. So that helps certainly in the margin going forward.

[Rick Weiss:]

Okay and do you expect continued deteriorations in the area, especially as WallStreet layoffs seem to be occurring almost daily?

[Chris Martin:]

Well again, if you’re looking at the one to four or are you talking about the reciprocal to the commercial?

[Rick Weiss:]

Well probably however it affects you the most?

[Chris Martin:]

Well again, we didn’t really lend to a lot of the WallStreet people on a one-to-four basis. Certainly businesses they would utilize in the way of restaurants or strip centers or big box stores will certainly be feeling the effects and I think that’s going throughout the economy. For the most part as we talked about, it was more of three of the larger loans that have been on our radar for while, we’re just trying to get them back into a performing status, beside from that not dramatic.

[Rick Weiss:]

Okay and when it comes to the reserves, I think Paul said that $2 million or so, the addition to reserves was due to loan growth. Is there more of a see change now with the auditors or SEC that they’re saying that “hey, we better reserve because things are getting worse” or they’re lightening up in terms of unallocated reserves?

[Linda Niro:]

No. Rick, I strictly related to again loan growth depending on the type of credits on the commercial sectors; it goes on our books to sign the rich rating and there’s a reserve factor associated with that rate out of the gate. So, we just wanted to give some color around why that $8.5 million provision was recorded and again, $2 million of it was strictly due to new loans coming on the book.

[Rick Weiss:]

Okay. So, I guess going forward into ’09, if the demand holds up then we would expect to see kind of commensurate increases in the reserve?

[Linda Niro:]

You would, especially if it was in the commercial sector of the portfolio.

[Rick Weiss:]

One final question; I guess in terms to a fees in the non-interest income drop this quarter, I’m just wondering if you can give some color behind that.

[Linda Niro:]

Again, that’s fees associated with equity fund holdings that we have and essentially there’s decline in the value of those equity funds quarter-to-quarter.

[Rick Weiss:]

Okay. The basic fees such as like overdraft, is that holding up okay?

[Linda Niro:]

Again, they were down just a nominal amount and some of that is due, so we [Inaudible], people are not bouncing as many check. The number of days in the months could have a factor; so there is a lot of different thing that influence that. That is just down a minor amount.

[Operator:]

Your next question comes from Damon DelMonte - KBW.

[Damon DelMonte:]

With regards to the land improvement loans, the $21 million, what is your additional exposure in that area?

[Linda Niro:]

We have reserved them fully to their current market value.

[Damon DelMonte:]

Okay, but how much in the way of land improvement loans you still have in your bucket?

[Linda Niro:]

I don’t have that number Damon off hand; it’s not a huge amount.

[Damon DelMonte:]

Okay and then with regards to the margin going forward, I know obviously the part of the decrease this quarter had to do with the decrease in the non-performing loans, but how are you viewing the margin going forward given the timing of the last cut by the Fed?

[Linda Niro:]

Yes. Now, we would say it’s maybe flat to down slightly. That due in part, the yielding on earnings assets is coming down a little bit faster than our ongoing ability to reduce funding costs, the amount of loans that we have tied to prime or LIBOR. The average rate drops significantly in the quarter. So, with that Fed expected to leave rates there at all, we see some time before we can institute more acceptable floors on these loans as they mature during the year.

[Damon DelMonte:]

Okay and then, just two quick things on expenses and the tax rate going forward just for modeling purposes. The results we saw this quarter, are those decent baselines to go after?

[Linda Niro:]

They could be about $33.5 million, somewhat of run rate going forward. Tax rate, we are projecting 27% effective tax rate for the year.

[Operator:]

Your final question comes from Mark Fitzgibbon - Sandler O’Neill.

[Alex Twerdahl:]

Good morning. Actually this is Alex Twerdahl. Just following up with Damon’s question, the $33.5 million run rate for expenses, does that include increased FDIC premiums?

[Linda Niro:]

Yes, it does. It’s approximately $5 million.

[Alex Twerdahl:]

Okay. So where else in expenses are you going to sort of trim that out of?

[Linda Niro:]

We look everywhere to term expenses. Absence the increase in FDIC expenses we would project flat for the year, that’s really the one category we’re seeing an increase.

[Alex Twerdahl:]

And then could you update us on any changes in your deposit gathering strategies. Are you seeing rates are to come down little bit or is there anything changed there?

[Linda Niro:]

It’s still fairly competitive. Deposits are what everybody seems to be after, but our strategy continues to be competitively priced in the marketplace and certainly with an emphasis on business deposits and business gathering.

[Chris Martin:]

One of the things there Alex is that’s why we are focusing in on the commercial ends of the businesses, because it does bring in a good non-interest bearing core base and then allow us to manage the growth of that portfolio by self funding in the percentage.

[Operator:]

(Operator Instructions) At this time it appears we have no further questions.

[Paul Pantozzi:]

Okay. If there are no further questions, we thank you for participating on this call. We look forward to hearing from you in the next quarter. Thank you.

[Operator:]

Thank you. That does conclude today’s conference. You may now disconnect.