Provident Financial plc

Ladies and gentlemen, thank you for standing by, and welcome to the Providence Financial Holdings Fourth Quarter Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will be given at that time. If you should require assistance during today's call, please press start and zero. And as a reminder, this conference is being recorded. I would now like to turn the conference over to our host, Chairman and CEO, Mr. Craig Blunden, please go ahead, sir.

Thank you. Good morning, everyone. This is Craig Blunden, Chairman and CEO of Providence Financial Holdings. And on the call with me is Donovan Turnis, our President, Chief Operating 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, forecasts of financial or other performance measures, and statements about the company's general outlook for economic and business conditions. We also may 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 from the earnings release that was distributed yesterday, from the annual report on Form 10-K for the year end of 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 the date that they're 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 fourth quarter and fiscal year results. In the most recent quarter, we originated and purchased $44.2 million of loans held for investment. an increase from the $28.8 million in the prior sequential quarter. During the quarter, we also experienced $56.5 million of loan principal payments and payoffs, which is up slightly from the $55.7 million in the March 2020 quarter and still tempering the growth rate of loans held for investment. In the June 2020 quarter, We found it a bit easier to originate purchase loans as the quarter progressed as mortgage markets normalized to some degree. However, we're still cautious regarding single family loan purchase taxes, particularly season production, because it is difficult to complete due diligence on individual loans consistent with our underwriting requirements. For the three months ended June 30, 2020, Loan tell for investment decreased by 1% in comparison to March 31, 2020 with declines in single family and commercial real estate categories. Partly offset by growth in the mobile family construction and other loan categories. New loan production seems to improve for California lenders from the March quarter because of many of the pandemic operating constraints have been resolved. Current credit quality is holding up well. You will note that early stage delinquency balances were just $219,000 at June 30, 2020. In addition, non-performing assets remain at very low levels and were just $4.9 million, which was down from the $6.2 million at June 30, 2019, a 21% decline during the course of the year. However, the situation regarding the pandemic is fluid and may have negative implications for future credit quality, although it is far from certain what those implications will be. We continue to work with our borrowers to provide payment forbearance of up to six months. The forbearance amount will be doing payable in full as a balloon payment at the end of the loan term or sooner if the loan becomes doing payable in full at an earlier date. We believe our forbearance plan will meet the broad criteria promulgated by the CARES Act interagency regulatory guidance and clarifying statements from the Financial Accounting Standards Board and the Securities and Exchange Commission. As a result, we believe that we qualify for favorable provisions cited in the guidance on the vast majority of forbearance loans. As of June 30, 2020, there were 48 single-family loans in forbearance with outstanding balances of approximately $19.9 million or 2.2% of gross loans held for investment and five mobile family and commercial real estate loans in forbearance with outstanding balances of approximately $2.7 million or 0.29% of gross loans held for investment. Monthly payments on the majority of loans in forbearance will not be required to resume until October or November of 2020. Additionally, New requests for forbearance have significantly declined from levels experienced in March and April and May. We recorded a $448,000 provision for loan losses in the June 2020 quarter, primarily due to an increase in the qualitative components in our allowance for loan losses methodology in response to the pandemic, which has negatively impacted the current economic environment. You will note that we remain on the incurred loss model and have not adopted CECL. This means that our allowance methodology cannot be reasonably compared to CECL adopters. I also wish to refer you to slide 13 of our investor presentation, specifically footnote five of the commercial and real estate table. The footnote describes the composition of our commercial real estate secured loan portfolio and the balances that may be considered higher risk in the current environment. Additionally, we populated a new table on slide 13 describing certain characteristics of loans and forbearance. Our net interest margin compressed by 35 basis points for the quarter ended June 30, 2020, compared to the March 31 sequential quarter as a result of a 41 basis point decrease in the average yield on total interest-bearing assets. partly offset by a seven basis point decrease in the cost of total interest-bearing liabilities. The decline in the average yield on total interest-bearing assets was primarily the result of a sharp rise in liquidity stemming from the significant increase in total deposits and invested at nominal yields. Our average cost of deposits decreased by six basis points to 30 basis points for the quarter end of June 30, 2020, compared to the March 31st sequential quarter, and we believe further declines are likely given the current interest rate environment. The 2.9% net interest margin this quarter was also negatively impacted by approximately seven basis points as a result of the increase in the amortization of the net deferred loan costs associated with the loan payoffs in the June quarter in comparison to the average net deferred loan cost amortization of the five previous quarters. We continue to look for operating efficiencies throughout the company to lower operating expenses. Notably, our FTE count on June 30, 2020, was 178 compared to 187 FTE on the same date last year, a 5% decline. As a result of fewer employees and other cost savings, operating expenses declined to approximately $6.6 million in the current quarter compared to approximately $9.7 million in the same quarter last year. Please note, though, that the June 2020 quarter benefited from a $575,000 reversal of incentive compensation accruals previously expensed in the first three quarters of fiscal 2020. Likewise, it should be noted that we incurred approximately $1.2 million of one-time costs in the June 2019 quarter last year associated with scaling back the origination of saleable single-family mortgage homes. Additionally, on a sequential quarter basis, operating expenses declined by approximately 4%, primarily as a result of declines in salaries, employee benefits, equipment, and other expenses, partially offset by increases in sales and marketing expenses and deposit insurance premiums. Our short-term strategy for balance sheet management is unchanged from last quarter. We believe that leveraging the balance sheet with prudent loan growth is the best course of action, but executing on that strategy in the current environment may prove very difficult. We exceed well-capitalized capital ratios by a significant margin allowing us to execute Our business plan and capital management goals without complications. We believe that maintaining our cash given in is very important to shareholders and doing so takes priority over stock buyback activity. As a result, we did not repurchase any shares of common stock in the June 2020 quarter and wish to emphasize that safeguarding capital is becoming increasingly important in the current environment. And it's the wisest course of action until we get better clarity on the current economic landscape. We encourage everyone to review our June 30th investor presentation posted on our website. We'll 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.

Thank you, ladies and gentlemen. If you wish to ask a question, please press 1 and 0 on your telephone keypad. You may withdraw your question at any time by repeating the 1-0 command. Once again, for questions today, please press 1 and 0 at this time. We do have a question from the line of Matthew Clark. Please go ahead.

Hey, good morning. We can maybe even start with the margin. The accelerated amortization sounds like it negatively impacted your loan yields there a little bit, and the excess liquidity is significant. Can you just kind of talk through the puts and takes of the margin as it relates to the excess liquidity, new loan pricing? I think the funding side is a little easier to kind of see, but just on the asset side, what the outlook is there.

Sure, I'll grab this. It's Donovan. Thank you. The largest impact in the June quarter was, as you described, the interest earning deposits or the significant increase in liquid assets. For example, the March quarter we had approximately $61.9 million of interest earning deposits or overnight deposits, if you will. as investments, and that was earning 120 basis points for the quarter. And then we move into the June quarter, and we see the large rise in deposits that came in during the June quarter, which were essentially invested in large part in overnight advances, and that are overnight deposits And that was $135.1 million, but the yield dropped to 11 basis points. So through the June quarter, we were essentially repositioning that liquidity out of overnight advances into investment securities. And obviously, to the extent that there was loan growth, that actually shrunk up a bit. So as we think about the remainder of... this calendar year and the beginning of our fiscal year, we're really going to need to redeploy those excess or that excess liquidity primarily into loans is the preference, but then secondarily into investment securities such that the yields we are earning on those loans investments are significantly larger than what we did in the June quarter. So that's the first thing. And then secondarily, as we think about where loan yields are coming onto the balance sheet, single-family loans are coming onto the balance sheet in the low 3% range. Multifamily and commercial real estate are in the mid to high 3% range. So we are investing in the low threes to the high threes with respect to new single-family, multifamily, commercial real estate production. And obviously, to the extent that that growth takes some of that excess liquidity off the books, there will be a nice spring with respect to the margin as we think about going forward. And then secondarily, the liability side, as it relates to our cost of liabilities, will also get some helpful go-forward balance, if you will. First of all, we have about $90.5 million of CDs that are maturing over the next year. Right now, those CDs are probably in the very high 90 to 110 basis point category. And those are being reinvested at maturity in the low 20 basis point category. So we'll get some bounce to margin as we go down the timeline there. And then secondarily, we have FHLB advances that are maturing through the course of the year, there's about 30 million of FHLB advances. And those advances and their costs are in, you know, call it 257 range. They will obviously either be paid off with excess liquidity or in the event we need the funding, we will replace those advances with significantly lower cost funds. So if I think about our net interest margin, we were hit pretty significantly in the June quarter primarily because of excess liquidity. And our job during fiscal 21 is essentially to redeploy that excess liquidity into much higher-yielding assets. And as a result of that, I think our net interest margin is probably closer to the bottom of our range than the top of our range on a current basis or at the June quarter, if you will.

On the security side, I guess, what are you buying with that excess liquidity to the extent you're redeploying it?

It's primarily in the mortgage-backed securities, GSE types, and it can range from you know, adjustable rate all the way to fixed rate product. But we're keeping the average life relatively short. But ultimately, we want cash flow product such that we're getting cash flows back to either redeploy into loans or also potentially redeploy in this excess liquidity One thing to think about as it relates to the excess liquidity, much of that excess liquidity was the result of the significant increase in deposits. The significant increase in deposits in the June quarter was largely the result of the stimulus programs that were putting money in depositors' pockets and they were then placing them into bank accounts. including PPP funds, although we didn't make the loans, we were the recipient and beneficiary of some of the funding that some of our customers received in the form of deposits. One would expect that as we go down the timeline, that funding will be used by the various businesses and individuals and will then be depleting some of the excess deposits. on our balance sheet as well. So we may wish to carry higher liquidity balances than we normally carry at least over the next quarter or so until we really understand where this excess liquidity coming from these deposits may land or whether or not they're short term or longer term in nature.

Understood. Okay. On the single-family resi loan portfolio and just loan growth overall, the balance is, in terms of the rate of decline, slowed, at least on a sequential basis. What are your thoughts about being able to maintain loan balances, or should we continue to expect a little bit of shrinkage?

Well, I think on a fiscal year basis, we jammed up about 3%. annual growth in our loans receivable or loans held for investment. I would expect that we would also be in the low to mid single digits with respect to growth over the course of the fiscal year, but much of that is going to depend upon what the real estate markets look like. Right now, the single-family market is primarily driven by refinance activity into 30-year fixed-rate product. Historically, we've not placed that on the balance sheet, although we may adjust our position with respect to that as we go through fiscal 21 because that's primarily where the market is. And then secondarily, as we think about multifamily and commercial real estate, there may also be an impact with respect to volume or market capacity because it's going to depend upon what the actual economics of the individual collateral or property looks like, whether or not they're impacted by COVID-19 with respect to their rents. It is conceivable or possible that the opportunity in multifamily commercial real estate goes down as a result of borrowers essentially not being able to refinance or being uncomfortable with purchase activity in the current environment. Our expectation is that we will be probably low to mid-signal digits with respect to annualized growth in the loan portfolio. But I think we're going to be impacted as well with prepayment activity, again, in the single-family portfolio more so than in multi- and commercial real estate as a result of current interest rates.

Okay. Okay, great. And then on the deferral activity, very, very low. It sounds like the requests have slowed meaningfully as well. I guess, how are you thinking about, you know, the unemployment kind of benefits and stimulus that the government's providing? And should that get cut? Is that of a growing concern? I know you have, you know, low LTVs and all that, but Just what are your thoughts about the potential for deferrals to pick up again?

Well, so far, we're not experiencing significant inquiries with respect to deferrals. We've essentially modified in forbearance those that were coming in from April, May, and June. The total numbers are very low with respect to the percentage of our overall portfolio. There is, of course, always a possibility that requests start increasing again depending upon what occurs with respect to any additional government stimulus programs. But it's very hard to forecast that. All I would suggest is given what occurred in our balance sheet and what we actually did in forbearance in the June quarter being significantly lower than what we've seen across the industry, we would have that same expectation that in the event we do see a rise in requests, our portfolio would probably fare better than many in the industry, particularly if we gauge it against what we saw in the June quarter and March quarters in comparison to others in the industry.

Great. Thank you. Thank you once again for questions. We've got one and zero at this time. Our next question comes from the line of Tim Coffey. Please go ahead.

Thanks. Good morning, gentlemen. Good morning. You know, given the commentary that you just provided on kind of your loan growth outlook for the next fiscal year, if there's lower levels of originations, is that going to have a limiting impact on the growth in your non-interest expenses?

Well, I don't know if it'll have a limiting impact. We've seen non-interest expenses or operating expenses decline significantly. And then even over the course of this fiscal year, we saw our FTE count decline by approximately 5%. And we're still looking for opportunities with respect to FTE count as well as other operating expenses. So I think the first three quarters we were coming in at about $7.5 million per quarter this fiscal year. And then if I look at the June quarter and I adjust for the $575,000 or so, I call it $600,000, of reversal of incentive comp that benefited the June quarter, that puts us on a run rate of 7.2, you know, $7.3 million a quarter in operating expenses, which is lower than the $7.5 million run rate that we had in the first three quarters. So our expectation is we're going to be in the low $7 million number for operating expenses over the course of fiscal 21, and it's not specifically related to loan origination volume per se and incentive compensation tied to loan origination volume per se. Obviously, if volume goes down, incentive comp will go down, but I don't know how meaningfully it will go down in comparison to total operating expenses. Okay, that's helpful. Thank you, Donovan.

And then switching gears over to your non-interest income, obviously consumer activity has been low relative to store of the trades. And if you reflect that, do you have any kind of visibility on when you might see, you know, client depositor activity start to pick up again?

You know, I think that's pretty difficult to forecast. you know, we're seeing less activity. And additionally, while we didn't quantify it, we were completing some fee waivers in the June quarter as well. So there was kind of a two-fold impact in the June quarter with respect to non-interest income, both from the standpoint of reduced consumer activity, but secondarily there was some fee waivers as well. We would expect the fee waivers component to go away. But, you know, when consumers begin their activity, I think is highly dependent upon when economies open and when consumers are actually out and about and shopping and going to restaurants and movies and the like. So I think that's highly dependent upon the circumstances around the pandemic.

Okay.

All right. I understand. And then in terms of the buyback, and, you know, Craig, I heard the commentary you made on Craig. You wanted to maintain capital. But there are banks in the West that are starting to approach the regulators about the opportunities to buy back stock.

If the regulators were to start, you know, expressing an ability or willingness for the banks to start buying back stock, would that change your view? on reinstating the buyback at all? I'll take that one, Tim. Certainly that would be an indicator that would mean we'd certainly look more favorably at that. But at this point in time, the regulators are certainly not looking favorably to buybacks. So I'd love to be interested in hearing if There's other institutions that have received permission to go ahead and do some limited buybacks. Certainly at these price levels, it's really attractive. But again, where's this economy headed in the next quarter or two with the effects on the pandemic on it? Okay. Those were all my questions. Thank you. Thanks, Kim.

Thank you. There are no questions in the queue. Please continue. We do show another question here from Matthew Clark. Please go ahead.

Sorry. On the origination of 30-year fixed type of product, is there an expectation that you might go back to selling loans again and just to create some fee income?

I think we always have those options open, but I don't know that there are definitive plans to scale up the originate to sell model. But again, depending upon what actually occurs, with respect to balance sheet growth being priority, if we find ourselves in a situation where we're uncomfortable with the rate of growth or we're uncomfortable with the interest rate risk aspects of that growth on balance sheet, we would certainly consider selling loans But I don't know that that means it's something that we would jump into and rescale significantly from, you know, consistent with what we did in the past.

Okay. Thank you. Thank you. And we do have a question from the line of Kevin Swanson. Please go ahead.

Hi, guys. Hi. Morning. I appreciate you guys not being overly active in PPP because I think we talked about it last quarter, not having a deal with the SBA. And it seems like from a lot of the conference calls around the industry, banks are really focusing on the PPP customers and kind of getting those in order and talking with them about the whole process. And you guys are saved from that a little bit. Just kind of curious how you kind of view the competitive landscape in terms of, you know, are the banks around you really focused on those clients? And does it offer you any, you know, offensive capabilities? Or just kind of curious how you're kind of structuring your conversation with clients and just, you know, without some of the PPP stress, I guess.

Yeah, the activity that we have in PPP has been actually a benefit, if you will, because we have customers that received PPP loans and essentially deposited those funds in our bank. Some of the other things that we're hearing, it's not PPP related per se or with respect to institutions that are focusing on those customers over others. But we are hearing and we are seeing from a competitive perspective that some of the larger banks who have closed many of their branch offices that surround our branch offices, there's been a level of customer frustration and we are routinely seeing new customer activity primarily deposit side activity coming into our branch network expressing their discomfort with some of the larger competitors we have because the branches are closed in these markets and so we are seeing some offensive capability with respect to deposit activity That's a net positive for us within the context of being able to remix the costing liabilities, if you will. There's a net benefit there. With respect to the loan side, I think everything on the loan side outside of single-family refinance activity, there's been a cautionary note. I think all of our competitors have tightened underwriting a little bit when they're thinking about multifamily and commercial. I think there's been less activity from borrowers and applicants because of the environment that we're in. And so we're not really seeing anything out of the ordinary there as it relates to competitors and how aggressive or maybe not aggressive they are. in that multifamily commercial real estate space. But certainly there's going to be those that are doing single family refinance and are going to see significant volumes, although that's primarily going to be fixed rate driven.

Great. I appreciate that. Thanks for taking my question.

Thank you. There are no questions in the queue. Please continue.

Well, if there are no further questions, I want to thank everyone for participating in our call today and we look forward to talking to you next quarter. Thank you.

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