Provident Financial Holdings Inc

NASDAQ:PROV

Earnings Call Transcript 2024-Q3

[Operator]

Thank you for standing by. My name is Kathleen, and I will be your conference operator today. At this time, I would like to welcome everyone to the Provident Financial Holdings Third Quarter for Year 2024 Earnings Call. [Operator Instructions] I would now like to turn the call over to Donavon Ternes, President and CEO. Please go ahead.

[Donavon Ternes, executive]

Good morning. This is Donavon Ternes, President and CEO of Provident Financial Holdings; and on the call with me is Tam Nguyen, our Senior Vice President 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 ending June 30, 2023, 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 of the date that they are 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 third quarter results. In the most recent quarter, we originated $18.2 million of loans held for investment, a decrease from $20.2 million in the prior sequential quarter. During the most recent quarter, we also had $28.5 million of loan principal payments and payoffs, which is up from $17.8 million in the December 2023 quarter and still at the lower end of the quarterly range.

Currently, it seems that many real estate investors have reduced their activity as a result of higher mortgage and other interest rates. Additionally, we are seeing more consumer demand for single-family adjustable rate mortgage products as a result of higher fixed rate mortgage interest rates. We have generally tightened our underwriting requirements and increased our pricing across all of our product lines as a result of higher funding costs, the current economic environment, and tighter liquidity condition. Additionally, our single-family and multifamily loan pipelines are similar in comparison to last quarter, suggesting our loan originations in the June 2024 quarter will be similar to this quarter and at the lower end of the range of recent quarters, which has been between $18 million and $75 million.

For the 3 months ended March 31, 2024, loans held for investment decreased by approximately $10 million when compared to the December 31, 2023, ending balances with decreases in single-family, multifamily, and commercial real estate loan categories partly offset by increases in commercial business and construction loans. Credit quality is holding up very well, and you will note that nonperforming assets increased to $2.2 million at March 31, 2024, which is up from $1.8 million on December 31, 2023. Additionally, there is just $388,000 of early-stage delinquency balances at March 31, 2024.

We are aware of the mounting concerns regarding commercial real estate loans, particularly office, but are confident that the underwriting characteristics of our borrowers and collateral will continue to perform well. We have outlined these characteristics on Slide 13 of our quarterly investor presentation, which shows that our exposure to office of various types is $41.8 million or 3.9% of loans held for investment portfolio. You should also note that we have just 6 CRE loans for $3.4 million maturing for the remainder of 2024.

We recorded a $124,000 provision for credit losses in the March 2024 quarter. The provision for credit losses recorded in the third quarter of fiscal '24 was primarily attributable to a longer estimated life of the single-family loan portfolio resulting from increased market interest rates and lower loan prepayment estimates, while the outstanding balance of loans held for investment at March 31, 2024, declined 1% to $1.07 billion from $1.08 billion at December 31, 2023. The allowance for credit losses to gross loans held for investment increased to 67 basis points at March 31, 2024, from 65 basis points on December 31, 2023.

Our net interest margin declined by 4 basis points to 2.74% for the quarter ended March 31, 2024, compared to the December 31, 2023, sequential quarter as the net result of an 8 basis point increase in the average yield on total interest-earning assets, and a 17 basis point increase in the cost of total interest-bearing liabilities. Notably, our average cost of deposits increased by 19 basis points to 118 basis points for the quarter ended March 31, 2024, compared to 99 basis points in the prior sequential quarter.

And our cost of borrowing increased by 12 basis points in the March 2024 quarter compared to the December 2023 quarter. The net interest margin this quarter was negatively impacted by approximately 1 basis point as a result of higher net deferred loan costs associated with loan payoffs in the March 2024 quarter in comparison to the average net deferred loan cost amortization of the previous 5 quarters.

New loan production is being originated at higher mortgage interest rates than recent prior quarters, and adjustable rate loans in our portfolio are adjusting to higher interest rates in comparison to their existing interest rates. We have approximately $98.2 million of loans repricing upward in the June 2024 quarter at a currently estimated 89 basis points to a weighted average rate of 7.88% from 6.98%, and approximately $108.4 million of loans repricing upward in the September 2024 quarter at a currently estimated 89 basis points to a weighted average rate of 8.06% from 7.71%. However, many adjustable rate loans in all categories are currently limited in their upward adjustment by their periodic interest rate caps.

I would also point out that there is an opportunity to reprice maturing wholesale funding downward as a result of current market conditions where current interest rates have moved lower in 12-month-and-longer terms. All of this suggests that the current pressure on the net interest margin may soon subside.

We continue to look for operating efficiencies throughout the company to lower operating expenses. Our FTE count at March 31, 2024, increased to 161 compared to 160 FTE on the same date last year. You will note that operating expenses decreased to $7.2 million in the March 2024 quarter, which is consistent with the stable run rate of approximately $7.2 million per quarter. For fiscal 2024, we continue to expect a run rate of approximately $7.2 million per quarter. In fact, though, the actual run rate for the fiscal year-to-date first 3 quarters has been somewhat lower at $7.1 million per quarter.

Our short-term strategy for balance sheet management is somewhat more conservative than last fiscal year. We believe that slowing the loan portfolio growth is the best course of action at this time as a result of tighter liquidity conditions and the inverted yield curve. We were successful in the execution of this strategy this quarter with loan origination volumes at the low end of the quarterly range and loan payoffs also at the low end of the quarterly range. The total interest-earning assets composition reflected a small decrease in the average balance of loans receivable and a decrease in the lower-yielding average balance of investment securities.

In addition, the total interest-bearing liabilities composition improved somewhat with a decrease in the average balance of deposits but a larger decrease in the average balance of borrowings. We exceed well-capitalized capital ratios by a significant margin, allowing us to execute on our business plan and capital management goals without complications. We believe that maintaining our cash dividend is very important. We also recognize that prudent capital returns to shareholders through stock buyback programs is a responsible capital management tool, and we repurchased approximately 50,000 shares of common stock in the March 2024 quarter.

For the fiscal year-to-date, we distributed approximately $2.9 million of cash dividends to shareholders and repurchased approximately $2 million worth of common stock. As a result, our capital management activities resulted in a 91% distribution of fiscal year-to-date net income. We encourage everyone to review our March 31 investor presentation posted on our website. You will find that we included slides regarding financial metrics, asset quality and capital management, which we believe will give you additional insight on our solid financial foundation supporting the future growth of the company.

We will now entertain any questions that you may have regarding our financial results. Kathleen?

[Operator]

[Operator Instructions] And your first question comes from the line of Andrew Liesch of Piper Sandler.

[Andrew Liesch, analyst]

Donavon, just on the margin trend here. It sounds like you said the pressure will subside soon. Does that mean -- I guess trying to triangulate everything, it seems like maybe a little bit more pressure in this current quarter, and then maybe it could stabilize in the first fiscal quarter of '25? Is that the right way of looking at it?

[Donavon Ternes, executive]

So Andrew, we described in the prepared remarks what we have repricing with respect to our loan portfolio, which obviously doesn't account for any payoffs that might occur or new production volume, which is coming in at higher rates. But additionally, you'll see that in the earnings release, we described our FHLB advances that are maturing in the current quarter. It's approximately $59.5 million and the weighted average interest rate of those advances is 5.28%.

So we think today, given where current FHLB advance rates are, if we were to replace those advances, we can do so at approximately the same rate, maybe a little bit lower, depending upon the term we choose with respect to replacing those advances. Additionally, while we don't have it in the prepared remarks, we have approximately $10 million of brokered CDs that are maturing this quarter. And those brokered CDs are maturing at a weighted average cost of 5.38%. We think we can reprice those brokered CDs downward, again depending upon the term we choose for replacement below the 5.38%.

So in addition to thinking about the balance sheet repricing upward with respect to adjustable rate loans, we also have the opportunity to reprice downward or remain close to neutral with respect to our wholesale funding costs. So we think as we go through this fiscal quarter or the fourth quarter, we have an opportunity of carving in to the decline in net interest margin, which again went down from last quarter. It was 4 basis points this quarter. We have a very good shot, it seems to me, at being flat to net interest margin for the June quarter, maybe even picking up 1 or 2 basis points in the June quarter.

But certainly, we don't get the full impact of the repricing balance sheet until the September quarter because all of this occurs in the June quarter, in the months, April, May, and June, and it just kind of depends on when everything reprices.

[Andrew Liesch, analyst]

Got it. All right, that's helpful. The $59.5 million of FHLB, the pricing is pretty similar. Why not just replace those with brokered CDs if you get a lower rate on those?

[Donavon Ternes, executive]

Well, we could, and that is an option, but we also measure our wholesale funding both in the form of Federal Home Loan Bank's advances, brokered CDs and the like. And we're sensitive to that and we don't want to be dependent on any particular form, if you will, on a go-forward basis. We ladder out what it is we do with FHLB advances and brokered CDs so we can game plan in when that repricing may occur down the time line.

And so the answer is yes, we could. But we've chosen not to do so at this point because we think the current composition of that wholesale funding is about right from a risk standpoint with respect to the balance sheet.

[Andrew Liesch, analyst]

Got it. All right, that's helpful. Then just on expenses, I hear you on the $7.2 million run rate. Does that imply a step-up here in the fourth quarter? I'm just trying to figure out what line item that would go into. Your costs continue to be pretty well controlled here.

[Donavon Ternes, executive]

Yes. I wouldn't expect a great deal of deviation from what that run rate looks like. We've done a little bit better than what we've described through the first 3 quarters at $7.1 million versus the $7.2 million. But we're also entering the fourth quarter. There are many true-up items that come in at the end of the fiscal year and analysis that gets completed at the end of the fiscal year. So I wouldn't expect a large deviation one way or another from the $7.2 million.

[Operator]

[Operator Instructions] And your next question comes from the line of Timothy Coffey from Janney.

[Timothy Coffey, analyst]

I have a question, so I appreciate the color on the brokered -- on the borrowings over the next 12 months that's in the slide deck. I'm wondering, of the brokered deposits that you have on balance sheet, how much of that matures in the next 12 months?

[Donavon Ternes, executive]

So a significant portion of that balance matures over the next 12 months. As I've described, we ladder out and we look at given maturities in given months. Historically, what we've been looking at is kind of the 13-month, 14-month terms with respect to new CDs, replacing maturing CDs, and that effectively ladders everything out. So those brokered CDs, which are also, I think, called out in the earnings release as far as balance and weighted average cost, will be coming due primarily over the next 12 months, too.

[Timothy Coffey, analyst]

Okay, okay. And so let's say there are rate cuts and your funding costs are coming down. I would imagine that you'd like to be a little more competitive on the loan side. But do you get the sense that there is any kind of pent-up demand from real estate investors?

[Donavon Ternes, executive]

So with respect to what we're doing, Tim, we're relatively conserved with the inverted yield curve. And essentially, the loans that we're making, which are hybrid ARMs, call them at the 5-year part of the curve. And if we're funding at the margin at the short end of the curve, that pure spread at the margin coming on board is negatively impacted by the shape of the curve, and we're uncomfortable with that with respect to growth in balance sheet.

So what we've been doing over the course of the last year is essentially replacing, to the extent we can, what is maturing to keep the total portfolio essentially flat. And there's bumpiness to that. For instance, it shrunk up by about $10 million this most recent quarter. But what we believe is, if we determined that we wanted to become more aggressive with respect to generating loan portfolio, we could do so but for the fact that we're uncomfortable in doing so with the inverted yield curve.

We have -- I don't know how much pent-up demand, generally speaking, there is in the market. I think it's very sensitive to interest rates. But with respect to what we could produce for our own balance sheet, we believe we could grow balance sheet and loan portfolio when the time is right for us to do so based on current conditions.

[Timothy Coffey, analyst]

Okay, appreciate that. And then you'd mentioned that your capital returns are close to 90% of earnings. Is that a reason why you're not getting more aggressive on the buyback just in general? Because I know you obviously have liquidity and volume constraints. But is that kind of why you're not getting more aggressive on the buyback?

[Donavon Ternes, executive]

Well, I don't know that it's a matter of aggressiveness per se. When we build out our business plan each year and we share that business plan with the regulatory authorities, which is both, by the way, the Federal Reserve Bank at the holding company level and the OCC at the bank level, there is a notice provision contained in those documents with respect to what goes to the Federal Reserve and the OCC, where we lay the foundation or expectation as it relates to what we may do in the form of a cash dividend from the bank to the holding company and then what it is we might do with the cash that resides at the holding company as it relates to the cash dividend to shareholders as well as our repurchase activity.

And generally speaking and one of the things we have pointed out, if you look back at our Form 10-Qs, I believe that get filed at September 30 of every year, we described what the cash dividend has been from bank to holding company. And it has generally been about the same amount of the earnings at the bank level of the prior fiscal year. And so we're always in a position of moving money up from bank to holding company and then using that money at the holding company level for that repurchase activity, for that cash dividend, in a way that is transparent to regulators and consistent with our business plan, which we look at each year.

[Operator]

There are no further question at this time. I will turn the conference back over to Donavon Ternes for closing remarks.

[Donavon Ternes, executive]

Well, thank you, everyone, for joining the call today. We look forward to speaking with you next quarter.

[Operator]

Ladies and gentlemen, that concludes today's call. Thank you all for joining. You may now disconnect.