Luther Burbank Corporation

Good morning and welcome to the Luther Burbank Corporation first quarter 2021 earnings conference call. All participants will be in a listen-only mode. Should you need assistance, please press star then zero. After today's presentation, there will be an opportunity for the three analysts covering Luther Burbank Corporation to ask questions. To ask a question, please press star then one. Before we begin, I would like to remind everyone that some of the comments made during this call may be considered forward-looking statements. The company's Form 10-K for the 2020 fiscal year, its quarterly reports on Form 10-Q and current reports on Form 8-K identify certain factors that could cause the company's actual results to differ materially from those projected in any forward-looking statements made this morning. The company does not undertake to update any forward-looking statements as a result of new information or future events or developments. The company's periodic reports are available from the company or online at the company's website or the SEC's website. I would like to remind you that while the company's management thinks the company's perspectives for performance are good, it is the company's policy not to establish with the market any earnings margin or balance sheet's guidance. I would now like to turn the conference call over to Simone Lagomarsino, President and CEO. Please go ahead.

Thank you very much. Good morning and welcome to the Luther Burbank Corporation's 2021 First Quarter Earnings Conference Call. This is Simone Lagomarsino, President and Chief Executive Officer, and with me today is Laura Tarantino, our Chief Financial Officer. As I reflect on the first four months of this year, I'm gratified to see signs of progress, not only for our bank, but for our economy and our country. The broad distribution of vaccines and the reopening of small businesses are welcome signs to a brighter future. We are truly grateful for the dedication and resiliency of our customers and our employees during this past year through this pandemic. A few years ago, we laid out a multi-year strategic goal to improve the quality of our earnings And this quarter's results demonstrate our progress toward achieving that goal. For the first quarter, we recorded net income of $18.4 million or 35 cents per diluted share, an improvement of $2.3 million or 4 cents per diluted share as compared to the prior quarter's adjusted earnings when excluding the non-recurring charge for the prepayment of the FHLB advances that we incurred in December of 2020. Growth in net income compared to the prior quarter was primarily attributed to a $1.5 million increase in our net interest income and a $2.5 million recapture of loan loss provisions due to the improved credit quality within our loan portfolio. Our net interest margin expanded for the fourth consecutive quarter to a level of 2.23%, reflecting a 10 basis point improvement over the linked quarter. This improvement resulted from a 15 basis point reduction in our cost of funds, which outpaced a six basis point decline in the yield of our interest earning assets. Certainly, the general level of market interest rates has contributed to our ability to reduce the cost of our deposits. However, our pricing has also benefited from our efforts to replace larger rate sensitive customers with more granular deposit relationships. This trend, in part, is attributed to an emphasis on customer calling campaigns. Our branch employees have been calling our customers to check on their welfare during this unique environment. And then, in many instances, we've been able to expand the existing customer relationships and gain referrals to new customers. Our cost of funding also benefited from the strategic early payoff of high-rate FHLB advances last quarter. Now we'll turn to asset quality. Our ability to recapture $2.5 million this quarter in loan loss reserves was a direct result of a significant improvement in our criticized loan balances, which declined 40% or $23 million from the prior quarter. The vast majority of criticized loans that were upgraded during the quarter were related to borrowers who had initially been impacted by the pandemic, received pandemic-related payment deferral relief, and have now returned to scheduled monthly payments. Prior to upgrading the risk ratings on these loans, the borrowers needed to demonstrate payment performance for three months or more and exhibit the ability to service their obligations. At March 31st, we had only one single family loan remaining on a payment deferral plan, and that borrower returned to making payments this month. At the outset of the pandemic, we designed our COVID-19 payment deferral modification program so that any deferred payments were added as additional monthly payments to the end of the loan, and the loan was extended by an equal number of months. This ensured that our borrowers did not experience the impact of having to catch up on these payments all at once at the conclusion of the deferral period. We believe that the design of our modification program supported our borrowers who received payment deferrals from our bank, and it positioned them to successfully manage their temporary pandemic-related setbacks in return to full payment status. Although we recaptured loan loss provisions during the first quarter, the qualitative or judgment-based component of our allowance for loan losses continues to include approximately $8.7 million in reserves that we specifically set aside for potential incurred losses due to the heightened risk environment caused by the pandemic. Our allowance for loan and lease losses coverage ratio was 70 basis points at the end of the first quarter as compared to a ratio of 58 basis points at December 31st, 2019, prior to the declaration of the national emergency. We intend to continue to monitor the economic environment on a quarterly basis to determine if or when it is reasonable to increase or reduce our allowance coverage. Nonetheless, we believe that our credit outlook is very strong given our limited exposure to non-residential commercial real estate, the performance of our borrowers to date, the strength of our real estate in our primary lending markets, and the weighted average loan-to-value ratio of our loan portfolio of 58%. As a result of the pandemic and keeping credit quality top of mind, We tightened some of our underwriting guidelines in early 2020, but we have returned our credit programs so they are similar to pre-pandemic requirements. As a result, our first quarter loan originations of $391 million when annualized places us on track to exceed our 2020 volume and approximate our 2019 level. Additionally, our $680 million pipeline is at a record level for our company. Although we were pleased to see growing levels of loan activity, loan repayments remain elevated through the first quarter due to the continued low rate environment. Therefore, in February, we took the opportunity to purchase a single family fixed rate loan pool of $288 million to supplement our asset growth. The purchased pool, having an average loan balance of $418,000, was conservatively underwritten to agency standard standards with a weighted average debt-to-income ratio of 32 percent, a weighted average FICO score of 777, and a weighted average loan-to-value ratio of 52 percent. Although the fixed rate nature of this purchase pool and its weighted average coupon of 2.3 percent was not typical of the loan single-family volume that we normally originate for a loan portfolio, the transaction was an attractive use of liquidity when compared to yields on mortgaged backed securities with similar characteristics. At March 31st, we had 11 delinquent loans in our loan portfolio, totaling $7.1 million, of which 7, or 2.7 million, were single-family loans from the loan purchase that we just discussed. We attribute this statistic to a mid-March transfer of servicing from the seller to us, and each of these loans is actually now current. Of the remaining four delinquencies, two loans were 30 days late and two were chronic delinquencies that comprise a portion of our non-accrual loan balance. At quarter end, our non-performing asset to total asset ratio remained at just nine basis points, consistent with the prior quarter end. Now, I'll briefly turn to net income for the first quarter. The improvement in our net interest margin and credit quality previously discussed, along with our ability to reduce non-interest expense for the period to a level less than the prior year's quarterly adjusted average resulted in return on assets of 1.05% and a return on equity of 11.82%. Had we not reversed the $2.5 million in LOMOS provisions, our return on assets and return on equity would have been 95 basis points and 10.69% respectively for the first quarter of 2021, which is significant improvement as compared to an adjusted return on assets and return on equity for fiscal year 2020 of 67 basis points and 7.7% respectively. Again, the only adjustment made in 2020 was the Federal Home Loan Bank prepayment cost that totaled $10.4 million in the fourth quarter. Now we'll turn to the balance sheet. Our assets at the end of March totaled $7.1 billion, an increase of $173 million, or 3% since year end. The increase was primarily due to growth in loans of $222 million and investment growth of $44 million, partially offset by a $97 million reduction in cash. Growth in assets was primarily funded by a $128 million increase in retail deposits. Last quarter, we indicated that we expected low single-digit growth in our assets for 2021. Until we see a meaningful reduction in loan prepayments, we believe that this is still a reasonable estimate. The company's capital position remains strong. During the quarter, we purchased an additional 202,000 shares of our common stock at an average price of $10.42 per share or a 12% discount to our March 31st tangible book value of $11.88. Additionally, we continue to have an active share repurchase plan with $16.5 million in remaining authorized funds. We are pleased to announce that yesterday the Board of Directors declared a quarterly cash dividend of 5.75 cents per common share payable on May 17th to shareholders of record as of May 7th. And with that, I'll now turn the presentation to Laura for a quick update on our loan and deposit trends.

Thank you, Simone. Like most bankers, we're pleased to see some steepening in the yield curve this year. At this point, however, it's not clear that this trend will translate into an increase in loan pricing, likely due to the level of liquidity in the market and somewhat benign loan growth for the industry. During the first quarter, the weighted average rate on our new loan volume, excluding the loan purchase Simone discussed, with 3.35% or a four basis point decline from the linked quarter. Based on pipeline activity, we would expect our second quarter's origination rate to be similar to, or even slightly less, this rate. With our loan portfolio spot rate of 3.86% at March 31st, we continue to expect some downward pressure on loan yields as the rate on loan curtailments and payoffs, which was 4.03% during the first quarter, exceeds both the rate on new volume and the portfolio weighted average coupon. Fortunately, we do expect to achieve additional pricing declines in our deposit portfolio. The ending rate on our retail deposit portfolio measured 82 basis points at March 31st, or a 12 basis point reduction compared to the end of the linked quarter. During the second quarter of this year, we have $1 billion of retail certificate accounts that are scheduled to reprice. The current weighted average rate on the CD maturities measures 1.24%, while in March, new and retained retail deposit money was recorded at an average rate of 38 basis points, or approximately 86 basis points less. During the first quarter, we did execute a new $350 million interest rate swap contract, primarily to hedge the additional interest rate risk associated with the long-term fixed rate nature of the single-family loans pool that we purchased as compared to the risk inherent with our more typical five-year hybrid fixed-rate products. The new two-year swap has a pay-fix cost of 11 basis points and a received variable federal funds average component for a current net carry of approximately five basis points. Although we only anticipate a very modest margin improvement during this quarter, we expect our net interest margin to show the most expansion during the last half of this year after our other swaps totaling $1 billion, with the current negative carry of approximately 138 basis points expire in June and August. Consistent with our message last quarter, we're estimating our fourth quarter net interest margin to be in the range of 2.35 to 2.4%. This concludes our prepared remarks, and at this time, we'll ask the operator to open the line for questions.