PFS - Provident Financial Services Inc. (PFS) Q3 2022 Results - Earnings Call Transcript
Provident Financial Services, Inc. (PFS)
Q3 2022 Earnings Conference Call
October 28, 2022 10:00 AM ET
Company Participants
Adriano Duarte - Head, IR
Tony Labozzetta - President and CEO
Tom Lyons - Senior EVP and CFO
Conference Call Participants
Billy Young - RBC
Mark Fitzgibbon - Piper Sandler
Michael Perito - KBW
Presentation
Operator
Good morning. Thank you for attending today’s Provident Financial Services, Inc. Third Quarter Earnings Conference Call. My name is Alexis and I will be your operator for today’s call. All lines will be muted during the presentation portion of the call with an opportunity for questions-and-answers at the end. [Operator Instructions]
I would now like to pass the conference call over to Adriano Duarte, Investor Relations Officer of Provident Financial Services. You may proceed.
Adriano Duarte
Thank you, Alexis. Good morning and thank you for joining us for our third quarter earnings call. Today's presenters are President and CEO, Tony Labozzetta; and Senior Executive Vice President and Chief Financial Officer, Tom Lyons.
Before beginning their review of our financial results, we ask that you please take note of our standard caution as to any forward-looking statements that may be made during the course of today's call. Our full disclaimer is contained in this morning's earnings release, which has been posted to the Investor Relations page on our website www.provident.bank.
Now, it's my pleasure to introduce Tony Labozzetta, who will offer his perspective on our third quarter results. Tony?
Tony Labozzetta
Thank you, Adriano and good morning, everyone. In the third quarter, Provident delivered a strong financial performance, once again producing record revenues, resulting in earnings of $0.58 per share.
Our performance was driven in large part by the strength and stability of our funding base growth in loans and an expanding net interest margin. The expanding net interest margin drove a 10.1% increase in net interest income over the trailing quarter. This resulted in an annualized return on average assets of 1.26% return on average tangible equity of 14.96%.
Our solid earnings performance continues to positively impact our capital, which remains strong and comfortably exceeds well capitalized levels. Our board of directors approved a quarterly cash dividend of $0.24 per share.
We remain committed to furthering our goal of delivering a best-in-class customer experience, which creates advocates for life and will help build our business, all of our business lines.
Commercial lending continues to be our primary focus. And in the third quarter, we closed approximately $533 million of new loans. Our line of credit utilization percentage decreased 3% from the second quarter to 33%, which is trailing our historical average of about 40%. In addition, prepayment increased approximately 17% to $265 million as compared to the second quarter. Approximately two-thirds of the payoffs are due to the sale of the underlying collateral.
As a result of our production and the levels of pre payments, we grew our commercial loan portfolio, excluding PPP at an annualized rate of 3.9% for the quarter and 10% for the first nine months of 2022.
Pull-through in our commercial loan pipeline during the third quarter was as expected. We also replenished our gross pipeline, which remains strong at approximately $1.5 billion
Pull-through adjusted pipeline, including loans pending closing is approximately $963 million and our projected pipeline rate increased 112 basis points from the last quarter to 6.11%.
Through the first nine months of 2022, we had record commercial loan production and growth, despite the competitive market and rising interest rates. We are also encouraged by the activity that replenish our pipeline and we expect normal pull-through in the fourth quarter, which should result in good commercial loans. However, we remain watchful of rising interest rates and the potential impact that may have industry-wide on pipeline pull-through.
Stability of our core deposits is a valuable component of our franchise. During the quarter, the average balance of our core deposits increased $89 million or 3.6% annualized. Total cost of deposits for the quarter increased 15 basis points to 35 basis points. For the third quarter, our deposit beta was 10%, while the rising rate cycle-to-date deposit beta was about 5%.
Stability of our core deposits and relatively low betas, combined with the growth and improved yields on earning assets, particularly commercial loans, helped drive a 30 basis point improvement in our net interest margin.
Given our moderately asset-sensitive balance sheet, our stable core deposits, and our prospective loan growth, we expect more improvement in the net interest margin in the near-term.
Our fee-based business lines are an essential component of our community banking model. Provident Protection Plus formerly SB One Insurance had a solid third quarter, with a 19% increase in revenue and a 31% increase in operating profit as compared to the same quarter last year.
The unfavorable conditions in the financial markets persisted in the third quarter, and as a result, Beacon Trust experienced a decline in market value of assets under management and related fee income. Beacon Trust fee income decreased $239,00 or 3.4% as compared to the trailing quarter.
As we move forward and organically build our business lines, we are conscious of the potential deteriorating market conditions, Provident for remains committed to its strong risk management culture.
In September, we announced the merger of Lakeland Bancorp with Provident. We are excited about this partnership, which will form a powerhouse super community banking organization in the Tristate region.
We begin planning the next steps with our new colleagues, that collective enthusiasm about the combination of the two organizations continues to grow. I would like to express a special thank you to the Provident team this quarter, not only for their commitment and dedication, but for remain focused on producing strong financial results, while working diligently on the prospective merger transaction.
I also want to thank Tom Shara and the Lakeland bank team for their professionalism and camaraderie during the merger negotiations. I look forward to growing our business lines and creating value for employees, customers, communities, and shareholders.
With that, I'll turn the call over to Tom for his comments on our financial performance. Tom?
Tom Lyons
Thank you, Tony and good morning everyone. As Tony noted, our net income for the quarter was $43.4 million, or $0.58 per diluted share, compared with $39.2 million or $0.53 per share for the trailing quarter and $37.3 [ph] million or $0.49 per share for the third quarter of 2021.
Third quarter results included $2.9 million of non-tax deductible charges related to the recently announced definitive merger agreement with Lakeland Bancorp. Including these merger-related charges, pre-tax pre-provision earnings for the quarter was $73 million or annualized 2.12% of average assets.
We again achieved record revenue this quarter, totaling $138 million on the strength of record net interest income of $109 million and an $8.6 million gain on the sale of a foreclosed multi-tenanted office building to a purchaser who will reposition the property to industrial use.
Our net interest margin increased 30 basis points from the trailing quarter to 3.51%. Yield on earning assets improved by 47 basis points versus the trailing quarter as floating and adjustable rate loans repriced favorably and new loan originations reflected higher market rates.
Meanwhile, increases in funding costs continue to lag the improvement in asset yields with the average total cost of deposits increasing 15 basis points to 35 basis points. This represents deposit betas of 10% for the current quarter and 5.3% for the rising rate cycle-to-date.
The average cost of total interest bearing liabilities increased 23 basis points in the trailing quarter 2.54%. Pull-through adjusted long pipeline in September 30th increased $138 million from the trailing quarter to $963 million, while the pipeline interest rate increased 112 basis points since last quarter to 6.11%.
Including PPP loans, period-end commercial loan total increased $83 million on an annualized 3.9% versus June 30th. Net of runoff in residential and consumer loans total loans excluding PPP loans grew $65 million or an annualized 2.6% for the quarter.
The for your credit losses on loans increased $9.6 million for the quarter as a result of an $8.4 million provision for credit losses on loans and $1.2 million of net recoveries. The increase provision in the current quarter was primarily attributable to deterioration in the economic forecast and the $2.4 million increase in specific reserves on impaired commercial loans.
Non-accrual loans increased $19.1 million including a single $18.2 million loan collateralized by an office building in Philadelphia for which a $2.1 million specific reserve was established.
While the deterioration in this credit has caused asset quality metrics to worsen slightly from the trailing quarter, non-performing loan and asset levels total delinquencies criticizing classified loans and related ratios remain strong and are improved versus the same quarter last year.
Non-performing assets were 45 basis points of total assets, up from 36 basis points at June 30th. Including PPP loans, the allowance represented 0.88% of loans, up from 79 basis points of loans at the trailing quarter end.
Non-interest income increased $7.5 million versus the trailing quarter, driven by an increase in gains on sales of REO, partially offset by decreases in BOLI income, wealth management income, loan prepayment fees, gains on loan sales, swap income, and gains on securities transactions,
Including provisions for credit losses on commitments to extend credit and merger-related charges, operating expenses were an annualized 1.89% of average assets for the current quarter compared with 1.92% in the trailing quarter, and 1.85% for the third quarter of 2021.
Efficiency ratio was 47.11% for the third quarter of 2022 compared with 53.83% in the trailing quarter and 54.51% for the third quarter of 2021. Our effective tax rate increased to 27.7% versus 26.8% for the trailing quarter. However, excluding non-deductible merger-related charges, the effective tax rate was stable at 26.5%.
That concludes our prepared remarks. We'd be happy to respond to questions.
Question-and-Answer Session
Operator
[Operator Instructions]
First question is from the line of Billy Young with RBC. You may proceed.
Billy Young
Hey, good morning, guys.
Tony Labozzetta
Good morning.
Tom Lyons
Good morning Billy.
Billy Young
Just to comment on I guess we'll start with loan growth. It's sounds like that there's optimism here that growth will improve in the fourth quarter, given the higher adjusted pipeline. I guess what gives you confidence that the more elevated prepayment activity this quarter won't continue over the next couple of quarters
Tony Labozzetta
Sorry, what won't continue?
Tom Lyons
Elevating prepayments.
Tony Labozzetta
I mean, so the -- Billy the way I would characterize that as the rising rates don't really avail themselves to refinancing with other institutions. So, the only -- we had about two-thirds of our prepayments were the sale of collateral that on the loan on the line alone. So, while we can't predict it sale will take place. We expect prepayments to kind of drop, in terms of -- especially on a refinance side, we expect them to drop substantially.
Given the first part of your question, which was do we expect loan growth in the fourth quarter> I do expect it to pick up. One of the things that I should have noted or I can note now is the third quarter tends to be our lowest production quarter of the year. So, that's why I made the statement that the pull-through was as expected.
But in the fourth quarter, we expect to see that pick up and we're seeing that that activity certainly in October to be able to substantiate the statement that I'm making. So, yes, I feel good about the long rope going into the fourth quarter.
Billy Young
Great. Thank you for that. And my next question, just -- I guess, I think you have previous data you expected through the cycle deposit betas of around 23% and right now it's tracking at, call it 10%. So, do you still feel that 23% is a good number? Do you expect to maybe perhaps outperform that or do you expect some acceleration as we go into year end with betas?
Tom Lyons
I mean, I think it's a conservative number through the cycle bill. We do expect to see some acceleration obviously, for the industry as a whole repricing activities picked up, certainly more competitive environment out there as liquidity kind of drains from the system.
And for that end, I guess I still think that 23% is a good number. So, we have increased our models on deposit betas for the remaining part of the cycle up to about 40% weighted average beta excluding CDs, including non-interest bearing. I think that's a conservative number. I don't know if we get there, but that would get us to 23% in fairly short order.
Billy Young
Great, great. And just to follow-up there, do you have any perhaps updates thoughts on the deposit, strategy or deposit mix? Would there be any appetite to maybe add more CDs over time since are pretty low levels today and the loan to deposit ratio is moving up? And can you also remind us, you know what your goals are on the longer term loan to deposit ratio?
Tom Lyons
Yes, not a lot of interest in building a CD book significantly, I think we are a core funded bank. And that's one of the real -- strong attributes and strength of the company. So, we're at that 6.4% CDs right now. That said, we do have some promotional items out there to offer an alternative to our customers that still offer a cheaper funding than on the wholesale side.
But our deposit book is largely price insensitive. It's about 30%. commercial demand is like 15% to 17% the municipal, which has a little bit more volatility, but it's not ongoing. It's sort of a reprice once, and then they sit for a bit. And the balance is really core consumer accounts, which don't get -- don't exhibit a lot of price sensitivity for us. So, I think we have the appropriate alternatives available, but we should be able to continue to maintain lower than pure deposit payments going forward.
In terms of loans to deposit ratio, we have good strong liquidity available to us off balance sheet, plenty of borrowing capacity. We maintain a level of on balance sheet liquidity that satisfactory to our regulators. So, I mean, I think probably, getting to the 100, 105 would be okay. If you think back to the past, we've been as high as 113 and 115.
It all depends on how much borrowing capacity exists outside to give us a comfort level on overall liquidity. But right now, we stress tested our liquidity metrics and we're quite comfortable where we are.
Billy Young
Great. Thank you for taking my questions, guys.
Tony Labozzetta
Thank you, Billy.
Tom Lyons
Thank you.
Operator
Thank you, Mr. Young. The next question comes from the line of Mark Fitzgibbon with Piper Sandler. You may proceed.
Mark Fitzgibbon
Hey, guys, good morning. Tom, I wondered if you could share with us your thoughts on the outlook for expenses?
Tom Lyons
We are in the budget process. So I would certainly be able to give you more color on 2023 as we proceed through that. But for the fourth quarter, I think we said -- and roughly where we were in the third quarter between $64 million and $65 million, exclusive of whatever the provision for off balance sheet commitments requires.
Mark Fitzgibbon
Okay. Great. And then secondly, any color on the uptick in non-accruals in the commercial real estate book? Is that one credit, several credits, anything unique there?
Tony Labozzetta
Yes. I'll start and then Tom will sort of jump in. I think we had the one credit that Tom mentioned. It's often said that, it appears to be a one-off. But in this case, it truly appears to be a one-off from the sense that our team has done some deeper analysis on related type assets. And at this stage, we see no indication that, there's any other deterioration in that sector albeit we still pay attention. And Tom, do you want to add to that?
Tom Lyons
Yeah. Again, Mark that was an office building, which experienced some vacancy in Western Philadelphia suburb we have been monitoring the office portfolio as one that's an area where we might see some stress as an industry. Total is about $544 million, exclusive of that $18 million credit we referred to so $560 million roughly all in. We've gone through an extensive analysis and we continue to monitor the portfolio in terms of outstanding balances, medical, nonmedical, single-tenant, multi-tenant, rollover risk, upcoming maturities. We've been pretty thorough in our evaluation and we're not seeing anything of immediate concern, nothing that indicates any kind of systemic weakening in the portfolio.
Tony Labozzetta
True. And the one thing I would add to that, this is an. It's a customer that we also have other business with and they just happen to lose a tenant and so it's really a matter of whether we can get that building repurposed or re-tenanted. So we're working in tandem to see, to get to a good resolution.
Mark Fitzgibbon
Okay. Great. And then could you share with us what assets under management were and net flows this quarter?
Tom Lyons
Yeah. So another management fell to about $3.2 million, $3.3 million this quarter, unfortunately, as a result of market conditions. Flows, the average AUM was $3.5 million. That's down from $3.8 million in the trailing quarter. We did lose a couple of clients on a net base that 10 clients. So that's a little bit of concern. But overall, up for last year by 24 clients. Again, is still about $3.2 million in margin on the business is about 26.5%.
Mark Fitzgibbon
The 10 clients, the left, what was the rough assets associated with that? I can circle back to you, Tom, if you don't get -- okay.
Tom Lyons
On this -- nine months.
Mark Fitzgibbon
Okay. Great. And lastly, on the provision, I know a lot of moving parts and it will depend on loan growth. But how should we be thinking about the provision for the next quarter or two?
Tom Lyons
Largely dependent on the economic outlook, I don't think, as I said, I don't think we're seeing anything significant in terms of deterioration. In fact, our criticized and classified levels are the best they've been in some time. It's only about 2.4% or 8% of total loans. So it really comes down to the forecast. I would expect -- I think Moody's played a little bit of catch-up this quarter. I know they've deteriorated a little bit in October from September. But I don't think it's going to be the same pace of deterioration next quarter versus this quarter as it was in September versus June. So I expect that will moderate a little bit. But I would still say provisions, if I had to guess, maybe $3 million to $5 million.
Mark Fitzgibbon
Great. Thank you.\
Operator
Thank you, Mr. Fitzgibbon. The next question comes from the line of Michael Perito with KBW. You may proceed.
Michael Perito
Hey, good morning, guys. Thanks for taking my questions.
Tony Labozzetta
Hey, Mike. How are you?
Michael Perito
Doing well. So I wanted to follow-up on the prior question around fees. So I mean, with the wealth management run rate probably a step lower here, I mean, I think, Tom, you had kind of talked about a $20 million to $21 million run rate prior. I mean it sounds like between that and maybe there's room for that to drift a smidge lower. Is that fair at least near term here?
Tom Lyons
Maybe a little bit, the insurance business continues to run strong. And the core banking fees have all been consistent and growing. So I think we're holding our own despite the reduction in the value on the assets under management to get maybe a million dollars less near term.
Michael Perito
Okay. And then Tony, I appreciate all the color on kind of pipeline and growth expectations. And are you seeing any pockets, not necessarily like credit deterioration, but just pockets of customers or any particular areas or asset classes where you're starting to see some commercial customers maybe think a bit more conservatively about their growth or get -- taking on more debt or anything of that start to materialize yet or not really?
Tony Labozzetta
Well, I mean, I would say the construction sector, I mean, if you look at that I think that's has our clients thinking about the cost of the projects and the viability. So, I would say because of rising interest rates and the rise in inflationary pressures, I personally have spoken some clients on certain projects that maybe they're pausing on, only because of the viability of the returns that they can get.
So, but in terms of our C&I space, of which I should note that this quarter, we had a pretty impressive growth in the C&I space was approximately 34% of our production was in C&I. That seems to be humming along. I mean, obviously, everybody's got cautions on what the economic outlook looks like, and the effects of interest rate rises, but the activity still there.
Michael Perito
Helpful. And then just kind of another big picture question. I mean, I think part of the optimism for you guys around growth historically has been a lot of the dislocation in your market stemming from other M&A transactions. Obviously, you guys now have your own M&A transaction that will hopefully close next year, just wondering if you guys are starting to put any kind of blueprint around how to try to keep some of the organic momentum that I mentioned, you and Lakeland were both experiencing as from some of this other disruption, while you also integrate your own transaction? And I'm kind of a qualitative question. I'm just curious if there's any thoughts you're willing to provide there?
Tony Labozzetta
Oh, absolutely. That's something we talk about often. I mean, it really all begins with the cultural integration and the employee experience. I mean, the employees or the synapse to the customer, right. So usually when you disrupt that the customer loses the connectivity. I know we like to say their company, but those relationships are critically important.
I think I think teams are doing an extraordinary job of -- in the dynamic and how we're communicating together in the beginning of this process and how we’re sharing ideas and we have a very light-minded approach to credit and the way we manage our customer relationships. So I think that there should be some this new disruptive way. And I think we can only tighten and make things better. So I'm really expecting that this might be a merger that has as minimal disruption as possible during the combination, and it's only on us to drop the ball, but I think the teams will do a good job.
Michael Perito
Great. That's it for me. Thank you guys for taking my questions. Have a good weekend.
Tony Labozzetta
Thank you.
Operator
Thank you, Mr. Perito. [Operator Instructions]
There are currently no further questions registered in queue. I will now pass the line back to the management team for closing remarks.
Tony Labozzetta
Thank you, and thanks, everyone for joining us on the call and asking good questions. We look forward to a solid fourth quarter and be safe and have a great day.
Operator
That concludes the Provident Financial Services, Incorporated third quarter earnings conference call. Thank you for your participation. You may now disconnect your line.
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Provident Financial Services, Inc. (PFS) Q3 2022 Results - Earnings Call Transcript