Primis Financial Corp.

Thank you for standing by. My name is Ian, and I will be your conference operator today. At this time, I would like to welcome everyone to the Primus Financial Core third quarter earnings call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press star followed by the number one on your telephone keypad. If you would like to withdraw your question, again, press star one. Thank you. I would like to hand the call over to Matt Switzer, Chief Financial Officer. You may begin your conference.

Good morning, and thank you for joining us for Premise Financial Corp's 2024 third 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. Further discussion of the company's risk factors and other important information regarding our forward-looking statements are part of 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, permissbank.com. We undertake no obligation to update or revise forward-looking statements to reflect change 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 measure is used, if not readily apparent. I will now turn the call over to our President and Chief Executive Officer, Dennis Ember. Thank you, Matt.

Good morning, and thank you to all of you that have joined our call. Our results this quarter reflect our correction of the accounting error on the consumer loan portfolio and the impacts for accounting for this portfolio using the multi-unit accounting method. As Matt will discuss in more detail, this method recognizes credit costs upfront with a full CECL reserve, and the impacts of the credit support are not recognized until they are received, which is generally in the second half of the average life of the portfolio. Additionally, not all the revenue is recognized, particularly while the loan is in a promotional period. We are in high gear working to catch up on all of our T&Qs and targeting to be fully current on our SEC filings by the middle of November. Lastly, as we've stated in our NP filings, we still have an open consultation with the Chief Accountant's Office at the SEC regarding the accounting for this portfolio. While we expect some resolution on that in the near future, we cannot predict the outcome. The noise from this consumer portfolio is unfortunate because these loans really only represent 5% to 6% of total loans. And I say unfortunate because outside of this portfolio and our delayed filings, we've made a lot of progress on our strategy. A few examples are these. First, the core bank's contribution to our results continues to improve. The core bank's cost of deposits, for instance, for the quarter was 2.21% compared to 1.97 a year ago. Alongside the recent rate cut, we made the necessary adjustments immediately to keep the margin and net interest income steady. But coming into the quarter, we have 1.1 billion of deposits that we know are going to adjust further in the quarter. Our current bank, excuse me, our core bank's cost of deposits is consistently 40 to 50 basis points lower than our community bank peers in the Mid-Atlantic, and that's because of the lifetime relationships we have with our customer base, the technology that we use like Vibe to deliver noticeable convenience to the commercial customers, and the leverage we have with our digital platform. Secondly, the core bank's building pipelines on new relationships at a very impressive pace. While we do work hard with existing clients and continue to grow with them, the majority of our push and our incentive dollars focus on new relationships to the bank, new commercial relationships to the bank. The pipeline and pace of new relationships is three times what it was a year ago, and the momentum is almost all in the second half of this year. This leads us to believe that the community bank's ability to be the noticeable driver in our growth and operating results is finally present. A comment or two about Panacea. When we started the division, this concept was built to just be a loan vertical and really a consumer loan vertical at that. Today, we have continued to tweak the model and built unique digital capabilities that equally focus on deposit as well as commercial loan activity. Tyler's team this quarter had several really big wins with continued endorsements from large national medical associations, and a flurry of new commercial deposits at the end of the quarter that will probably mean up to $20 million in non-interest-bearing balances once the accounts are fully moved and funded. The development of all the ancillary financial services that we can sell alongside our loan and deposit relationships are in high gear, and the early signs about adoption are good. We experienced real momentum with our mortgage team. Our results this quarter on locked loans, we eclipsed $1 billion of annual production. Our run rate is $1 billion of locked loans for the first time. In the quarter, we locked $277 million of mortgage loans, which was up 67% against the same quarter in 2023. While we expect a slower fourth quarter, obviously, than what we had in the second and third quarter, Our year over year growth rate in production says a lot about first recruiting success and second, momentum in this industry. Right now, we have the best recruiting pipeline that we have had since we launched this platform in 2022. And combining that with the momentum that the industry is having gives us real confidence that we're going to see expansion in the contribution to our ROA and earnings per share that this division provides. Our announcement about Life Premium Finance is very positive but bittersweet. It's very positive for the three gentlemen that we recruited in 2021 who came to us with a lot of ambition, who built a platform and deepened their relationships and reputation in their industry to a really remarkable level. The opportunity in this division is probably bigger than my entire balance sheet, and it just needed a home similar to the one we announced. We'll sweep off a similar amount of deposits immediately and shrink total assets by probably about 10%. We expect this move by itself to improve tangible common equity ratio by about 75 basis points and improve our net interest margin immediately by six to seven basis points. We expect another five basis points of margin lift over the next several quarters as some of the remaining assets run off. The real lift with our announcement is with regards to Mortgage Warehouse. We recruited a team from a large bank that was exiting the space alongside an acquisition, and we are sprinting to onboard their client base. Fortunately, we had the software already and had done significant engineering and with our small warehouse client base. But what we didn't have was leadership or a team with the relationships that this team has and their vision. I'm confident that we can replace the entire life premium portfolio over the next few quarters. And the yields we are selling in warehouse right now are 160 basis points higher than our current life premium yields. conservatively, if we assume that only 80% of that pickup holds as we build capacity, we're talking about almost 20 basis points pickup in the margin and about 13 basis points or so pickup in our return on asset. The baseline op-ex in this division really isn't materially different than what we had in life premium, and we believe credit costs will be similar. This was a very good opportunity for our company, and my line of sight to the operating ratios that Matt and I want are much clearer after this move. On credit quality, we finished the quarter with only 25 basis points of non-performing assets, which is steady really for the last few quarters, but half of what it was in the third quarter of 2023. We still don't have any other real estate and have had little migration between the grades. During the quarter, we did conservatively downgrade one commercial real estate property that had been slow to lease up and really affected by vacancies in close or adjacent properties. Our borrower has funded all of the cost overrun, has never missed a payment, and pledged additional collateral, but our appraisals cap rate almost doubled from the origination date, and so we booked a provision for the small shortfall in collateral values. I don't expect a loss on this asset or migration into non-performing. and also believe we might have downgraded this asset right as cap rates on CRE were peaking. All right, with that, Matt, I will turn it over to you for some comments. Thanks, Dennis.

As a reminder, a summary of our financial results can be found in our press release and investor presentation, both of which can be found in our 8K filed with the SEC last evening and placed on our corporate website. This quarter, instead of repeating information found in those sources, I'm going to attempt to walk through some of the impacts of the recent accounting changes in order to help highlight underlying trends in our results. As Dennis mentioned, our results for the current period and prior periods include the impact of corrected accounting for a third-party originated consumer loan portfolio. As detailed in our recently filed 10-K, these changes require the following. The subset of loans with promotional features don't accrue interest until the end of the promotional period. Deferred interest on these loans that exit the promotional phase is largely recognized all at once with a modest discount that is accreted over time. Third-party reimbursement for waived interest under our agreement on promotional loans that pay off early is recorded in fee income instead of interest income. We record a derivative value representing the fair value of expected interest reimbursements marked to market each period with changes in that value recognized through non-interest income. And all credit costs are fully recognized, including estimated life-to-loan losses under CECL, while potential credit enhancements from the consumer program are recognized as received. Reported pre-tax pre-provision earnings can be found in our earnings release and includes the effects of the Panacea Financial Holdings consolidation as in previous periods. Adjusting for effects of this consolidation and non-recurring items, core pre-tax pre-provision earnings were $10 million in the third quarter versus $9.4 million before changes for the change in accounting in the second quarter. Adjustment amounts for both PFH consolidation and non-recurring items can both be found in our press release and investor presentation. This quarter, the various interest income and expense items for the consumer program we've previously discussed contributed a net of four and a half million to pre-tax pre-provision earnings in the third quarter versus 3.2 million in the second quarter. Under our previous accounting, contribution from this portfolio would have been 3.8 million or 700,000 less than reported this quarter. Last quarter, that would have been $4.5 million or $1.3 million higher than reported. Adjusting for these differences, core pre-tax pre-provision earnings were $9.3 million in the third quarter versus $10.6 million last quarter. A substantial portion of the volatility in reported earnings is due to the timing of interest recognition on promotional loans, where we are required to defer to the end of the promotions. We recognized 3 million of interest catch up in the third quarter for promotional loans that exited the period and began amortizing, up substantially from a half million in the second quarter. As a result, our reported margin was 2.97 in the third quarter, up from 2.72% in the second quarter. Adjusting for the effects of the timing differences, our margin would have been 2.83% in the third quarter, down only three basis points from the second quarter. We also recognized $2.5 million of interest reimbursement from our third-party partner for promotional loans that paid off early in the third quarter, up from $1.5 million last quarter, all of which is reflected in non-interest income and not in interest income or margins. We have $60 million of promotional loans deferring interest at September 30 with $17 million and $21 million reaching the end of their promotional periods in the fourth quarter and first quarter of 2025, respectively. Lastly, I do want to spend a minute on non-interest expense. As we highlighted in our earnings release and investor presentation, reported non-interest expense was $31 million which included 2.7 million of consolidated PFH expenses or 28.4 net compared to 27.4 million last quarter. Mortgage expenses were 6.4 million in the third quarter, up from 6.1 million last quarter on higher volume. Excluding these expenses as well as non-recurring items, core bank expenses were 19.8 million down from 20.1 million last quarter and in line with our five quarter average. We are laser focused on controlling expenses and generating operating leverage as we move past our accounting noise and look to grow revenue meaningfully in 2025. With that, operator, we can now open the line for questions.

Thank you. Once again, as a reminder, if you would like to ask a question, please press star followed by the number one on your telephone keypad. Once again, that is star followed by the number one. Our first question comes from the line of Russell Gunther with Stevens Inc. Your line is open.

Hey, this is Nick filling in for Russell Gunther. I just wanted to start off with your core expense outlook. Could you give a little guidance on that given the puts and takes of the premium finance sale and new hires around mortgage warehouse?

Should be relatively flat, Nick.

Okay. And then...

going on mortgage warehouse do you plan to break that those loans out separately from a modeling perspective modeling i think we would we would similar to everything else we've done we we probably display it kind of like you know an operating segment um when you say modeling you mean for maybe for For loan loss reserving or for interest rate risk or margin?

Yes. Yes, that's what I mean, loan loss reserve.

Yeah, I mean, it's going to be not that material in the fourth quarter, depending on how the next couple of weeks go. But as we move through 25, we will certainly break out as much information as possible so you can get a sense for the trends.

Okay, that makes sense. And if I remember correctly, I believe the DEC said it will be either in 4Q of 24 or 1Q of 25. And I was just curious if there was going to be, if you guys had a good growth rate on those mortgage warehouse loans. What are you referring to in the fourth quarter or first quarter? When you start breaking out and disclosing the mortgage warehouse loans.

I would say that I think, I mean, we're sprinting to sort of add their customers. You know, the fourth quarter and the first quarter are slower in the mortgage industry generally. So this is really a good time to be contacting the customers. I think they left their former bank with about 215 customers. They've been employed here for about three weeks. I think we're close to 24 customers now. We're trying to get maybe to 75 by the end of the year. And I think we'll just, you know, sort of sprinting to that. And then maybe as we get into the first part of the year, we'd... you know continue to add i mean again we're we're moving off 375 million or so of life premium loans we think there's going to be another probably 50 million or so that runs off um through the middle of next year so really we're looking to replace call it let's say 400 to 450 million of life premium loans

with these mortgage warehouse loans and I think for the um for next year I think the average mortgage warehouse book I think I feel comfortable at 400 million dollars for the whole year okay great that makes sense and now on to ROA so you previously laid out a target for a sustainable one percent ROA can you walk me through the slide path to when you think you guys are going to get there.

I think we've got a reasonable shot to get there in the second half of 2025, second half to late 2025. Part of that, Nick, is going to be, you know, we're going through, we're either going to get the change in accounting that we're hoping for and take out some of the volatility. Otherwise, we're going to be experience of volatility, but really only for largely a couple more quarters, potentially, because most of the volatility is tied to these promotional loans, and they bleed off pretty fast for the next two to three quarters. So setting all that aside, you know, we're moving off a pretty good-sized portfolio, but going to be replacing it almost dollar for dollar by the middle of 2025. and we think at higher rates and incrementally better profitability. So you combine that with some decent expense or cost controls or normal retail mortgage operation, we're projecting that to do better next year, and we expect the core bank to contribute more next year and to see some margin expansion on the core basis. I mean, I can't lay out all the basis points of contribution that all those puts and takes are going to add up. But we, as we look at how all that combines, we think that gets us to at least 1%. Yeah, maybe more.

I mean, you can't, there are so many moving parts, but I mean, the mortgage, the momentum we have in mortgage talking about quarter over quarter growth in locked loans and in revenues and all that. I mean, if that holds into next year, that's probably another seven or eight to 10 basis points. Life premium, trading life premium for the warehouse opportunity, like we said, is probably 13 basis points. The core bank, no question rates falling, like I said, with a billion dollars of deposits still left to be repriced this quarter, there's no doubt that the sensitivity to falling rates on our liability side is gonna power more margin and more ROA. So again, like I was saying, I mean, the energy and enthusiasm we have for the line of sight to the numbers you're talking about or better,

it's really good it's it's um anyway i'll leave you that no that's perfect that helps a lot and that's it on my questions thanks thanks for answering them your next question comes from the line of christopher maranek with jannie montgomery stock hey good morning thanks for hosting us um

Matt, just a quick housekeeping question. So the numbers we see in the press release and the core release, those reflect toward the new information and that will be kind of verified once the queues are filed. Do I have that right?

Yes, and those are all the quarters restated for the change in accounting. So it's all been pushed backwards. Got it.

Perfect. That's what I thought. Okay, great. Just wanted to be 100% sure. The criticized loan numbers were stable this quarter. Do you see any movement from that, and does the way that the consumer portfolio behaves impact those at all?

No, those are not reflected in those. Those loans are typical consumer loans. They get to 90 days, and they charge off.

That's what I thought. Okay. And then the trend on just general, you know, coming and goings on, you know, commercial criticized and substandard.

I mean, outside of the two credits, the more significant one and a much smaller one in the quarter that went from special mention to substandard, we're still not seeing a whole lot of inflow. And both of these credits, we've been watching for a while so it's not like where this came out the blue um or with some surprise maybe the valuation um that we had to rely on when we put the reserve on the uh bigger line was a little bit of a surprise but we think that's very very conservative um and the customers continue to pay so unfortunately you'll have to use their appraisal when it comes in But otherwise, I can't think of any credits that have moved into a problem bucket or started to creep up the risk rating curve that we weren't already aware of or have been watching.

Great. Thank you for that, Keller. And then another question just goes back to the cost of funds. Should that rate that we see this quarter be sort of a peak and it works itself down? And do you have a thought, I guess, in terms of how betas may play out looking forward the next four to five quarters?

So the first part of your question, yes. I mean, we saw cost of funds tick down in September. So it basically peaked in August. As to betas, some of it's going to depend on I think what happens with the next Fed cut, it feels like competitors have lower rates. And we have two, particularly in the core bank, for the higher rate stuff that have been kind of the upper end of the cost structure. We were pretty aggressive moving some of those down. Our overall data for the core bank is probably 20%, maybe, after the last move. If the Fed doesn't cut, I think we'll have an opportunity actually to continue to incrementally keep moving stuff down and get some more beta on the first Fed cut. If they do cut again, we're still going to cut, but somewhat, you know, some of us dictated by the competitive environment and what they're doing with their rates. Not as many people seem to have been aggressive cutting after that first move. Chris, one more thing.

Matt and I have been watching our digital deposits, and we did make a few moves on the digital side, but generally we did not make a lot of adjustments on the digital deposit. There's $915 or $920 million there. One, we're doing a little bit of a – we're doing a small sort of upgrade slash conversion on the customer experience here in about a month. And we think there's another rate move coming, or if there is another rate move coming, we did not want to be pinging them aggressively. So, I mean, that's that plus, you know, some broker deposits that we have that are coming up in December. I mean, there's a billion dollars of deposits on our balance sheet that never really got moved on this last rate cut that we are going to move this quarter. Just want a little more line of sight into what the Fed's going to do and get past our conversion. So, I mean, I know your question about have we peaked, there's no question we peaked. I think how much we can get out of that,

ahead of you know maybe having a an earning asset opportunity with mortgage warehouse we just want to be smart and cautious there but now we're going to you're going to see some some noticeable improvement in cost of funds and even on the digital bank what dennis is referring to we were we've been um you know appropriately measured in like how we deal with existing deposits on that but we did lower rates for new money coming in and we're still attracting money at those newer rates. So we're averaging down the cost of the digital platform even without being real aggressive for existing money.

Okay, great. Yeah, I was going to ask about the new inflows that you saw. So you sort of addressed that. And it sounds like if there is a difference on beta versus digital versus the core bank, it's hard to really talk about that today, give a few more quarters and sort of circle back on how the experience is.

Yeah.

Okay. Great. Thanks for all the information today, as always, and I appreciate you hosting the call. Thanks, Chris.

There are no further questions at this time. I'll hand things back over to Dennis Zimber, CEO, for some final remarks.

All right. Thank you again for your participation and your interest. If you have any questions or comments, of course, Matt and I are around. all the time, so just give us a call, text, or email, and we'll get back to you. Thank you. Have a great weekend.