Provident Financial - Earnings Call - Q2 2025

Executive Summary

• Q2 FY2025 EPS was $0.13, down 54% sequentially vs $0.28 in Q1 and down 59% year over year vs $0.31, driven by a $586k provision for credit losses and higher non-interest expenses; net income was $0.872M vs $1.900M in Q1 and $2.141M in Q2 FY2024.
• Net interest margin expanded to 2.91% (+7 bps q/q; +13 bps y/y) as asset yields outpaced funding costs; management expects further margin expansion in March quarter, albeit at a slower pace given some near-term loan repricing headwind offset by wholesale funding repricing tailwinds.
• Credit quality remains solid: NPAs were 0.20% of assets; no charge-offs; classified assets stable; CECL allowance stood at 0.66% of gross loans; non-accruals concentrated in single-family with no 90+ day accruing loans.
• Capital returns continued: $0.14 dividend declared on Jan 23, 2025 and a new authorization to repurchase up to ~5% (~334,773 shares); 63,556 shares repurchased in Q2 at $16.04 average price.
• Tactical catalysts: ongoing NIM expansion, disciplined loan growth at higher origination rates, and sizable wholesale funding repricing opportunity ($85.5M maturities at 4.50% in March) could support near-term NII; watch non-interest expense normalization to ~$7.5M run-rate and loan repricing mix across March/June.

What Went Well and What Went Wrong

What Went Well

• Net interest margin increased to 2.91% (from 2.84% in Q1 and 2.78% a year ago) as asset yields rose faster than funding costs; management highlights further margin expansion potential tied to wholesale funding repricing and improved yield-curve dynamics.
• Loan origination volume rose to $36.4M (vs $28.9M in Q1) with pipelines indicating similar production in March quarter; demand improving for single-family ARMs and underwriting eased in select segments to encourage volume.
• Credit quality stable with NPAs at 0.20% of assets, no charge-offs, and limited office CRE exposure (~$40.4M; 3.8% of loans), plus minimal CRE maturities in 2025 (6 loans, $3.2M), supporting benign credit risk outlook.

Quote: “All of this suggests a continued expansion of the net interest margin in the March 2025 quarter, but at a slower pace than that experienced in the current quarter.” — Donavon P. Ternes, President & CEO.

What Went Wrong

• Earnings compressed: net income fell to $0.872M and EPS to $0.13 (sequential -54%; y/y -59%) primarily due to a $586k provision (vs $697k recovery in Q1; $720k recovery y/y) and higher salaries/benefits and other operating expenses.
• Efficiency deteriorated to 81.15% (from 79.06% in Q1 and 76.11% y/y) reflecting elevated non-interest expenses, including $100k executive search agency costs and $167k retirement plan expenses not expected to recur.
• Deposits declined vs prior periods (total deposits $867.5M at 12/31/24 vs $863.9M at 9/30/24 and $911.98M at 12/31/23), with core deposits down and brokered CDs rising to $143.8M, keeping funding costs elevated despite recent declines in average deposit cost.

Transcript

Operator (participant)

Hello, and thank you for standing by. My name is Bella, and I will be your conference operator today. At this time, I would like to welcome everyone to the Provident Financial Holdings second quarter of fiscal 2025 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, then the number one on your telephone keypad. To withdraw your question, press star one again. I would now like to turn the conference over to Donavon Ternes, President and Chief Executive Officer. Please go ahead.

Donavon Ternes (President and CEO)

Thank you, Bella. Good morning. This is Donavon Ternes, President and CEO of Provident Financial Holdings. 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 earlier this morning, from the annual report on Form 10-K for the year ended June 30, 2024, 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 distributed earlier this morning, which describes our second quarter fiscal 2025 results. As a Southern California bank, I wanted to take a moment during our call this morning to thank the firefighters and first responders fighting the fires in Los Angeles.

Our thoughts are with those affected by the fires. We are actively monitoring the situation and have identified $23.7 million, or 2.2% of our loans held for investment portfolio, located in ZIP codes within the fire evacuation and evacuation warning zones. We are aware of two homes with a combined loan balance of $658,000 with minor damage. We believe both homes are fully insured. We will continue to monitor the fluid situation and will work with these borrowers during this challenging time. In the most recent quarter, we originated $36.4 million of loans held for investment, an increase from $28.9 million in the prior sequential quarter. During the most recent quarter, we also had $34.3 million of loan principal payments and payoffs, which is up slightly from $34 million in the September 2024 quarter.

Currently, it seems that real estate investors have reduced their activity as a result of higher mortgage and other interest rates, although we continue to see moderate activity in loans held for investment. 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 loosened a few of our underwriting requirements within certain loan segments to encourage higher loan origination volume. Additionally, our single-family and multi-family loan pipelines are similar in comparison to last quarter, suggesting our loan originations in the March 2025 quarter will be similar to the December 2024 quarter and around the high end of the range of recent quarters, which has been between $19million and $36 million.

For the three months ended December 31, 2024, loans held for investment increased by approximately $5 million when compared to the quarter ended September 30, 2024, with increases in the single-family and commercial business loans partly offset by decreases in the multi-family, commercial real estate, and construction loans. Current credit quality continues to hold up very well, and you will note that non-performing assets increased to just $2.5 million on December 31, 2024, which is up from $2.1 million on September 30, 2024. Additionally, there were no early-stage delinquencies at December 31, 2024. We continue to monitor commercial real estate loans, particularly loans secured by office buildings, but are confident that based on the underwriting characteristics of our borrowers and collateral, these loans will continue to perform well.

We have outlined these characteristics on slide 13 of our quarterly investor presentation, which shows that our exposure to loans secured by various types of office buildings is approximately $40.4 million, or 3.8% of loans held for investment. You should also note that we have just six CRE loans for $3.2 million maturing in calendar 2025. We recorded a $586,000 provision for credit losses in the December 2024 quarter. The provision for credit losses recorded in the second quarter was primarily attributable to a longer estimated life of the loan portfolio resulting from increased market interest rates and lower loan prepayment estimates, a slightly higher balance of non-performing and classified loans, and a small increase in the outstanding balance of loans held for investment.

The allowance for credit losses to gross loans held for investment increased five basis points to 66 basis points at December 31, 2024, as compared to 61 basis points at September 30, 2024. Our net interest margin increased to 2.91% for the quarter ended December 31, 2024, compared to 2.84% for the sequential quarter ended September 30, 2024, the net result of a three basis point increase in the average yield on total interest-earning assets and a five basis point decrease in the cost of total interest-bearing liabilities. Notably, our average cost of deposits declined to 123 basis points, down by four basis points for the quarter ended December 31, 2024, compared to no change in the prior sequential quarter. In addition, our cost of borrowing decreased by 21 basis points in the December 2024 quarter compared to the September 2024 quarter.

The net interest margin this quarter was negatively impacted by approximately two basis points as a result of higher net deferred loan costs associated with loan payoffs in the December 2024 quarter compared to the average net deferred loan cost amortization of the previous five quarters. New loan production is being originated at higher mortgage interest rates than the weighted average of the existing loan portfolio, but some of our adjustable-rate loans may be repricing at interest rates that are lower than their current interest rates. For example, we have approximately $124.3 million of loans repricing in the March 2025 quarter to an interest rate currently forecast to be five basis points lower to a weighted average interest rate of 7.51% from 7.56%.

Conversely, we also have approximately $96.3 million of loans repricing in the June 2025 quarter to an interest rate currently forecast to be 57 basis points higher to a weighted average interest rate of 7.35% from 6.78%. I would point out that there is tremendous opportunity to reprice maturing wholesale funding downward as a result of current market conditions where interest rates have moved lower across all terms. Excluding overnight borrowings, we have approximately $85.5 million of Federal Home Loan Bank advances and brokered certificates of deposit maturing in the March 2025 quarter at a weighted average interest rate of 4.50%. Given market conditions, we would expect to reprice these maturities to a lower weighted average cost of funds. All of this suggests a continued expansion of the net interest margin in the March 2025 quarter, but at a slower pace than that experienced in the current quarter.

We continue to look for operating efficiencies throughout the company to lower operating expenses. Our FTE count at December 31, 2024, increased to 162 compared to 160 on the same date last year. You will note that operating expenses were $7.8 million in the December 2025 quarter, an increase from the $7.5 million in the September 2024 quarter. The increase over the expected run rate of $7.5 million was due to non-recurring or intermittent expenses, particularly the $100,000 of executive search agency costs and $167,000 of retirement plan benefit expenses that are not anticipated in future periods. As a result, for fiscal 2025, we continue to expect a run rate of approximately $7.5 million per quarter. Our short-term strategy for balance sheet management is somewhat more growth-oriented than last fiscal year.

We believe that disciplined growth of the loan portfolio is the best course of action at this time, as we recognize that the Federal Open Market Committee has recalibrated the looser monetary policy, and the inverted yield curve has begun to reverse back to an upwardly sloping yield curve. We were partly successful in the execution of the strategy this quarter, with loan origination volume at the high end of the quarterly range and loan prepayments similar to the prior sequential quarter. The composition of total interest-earning assets improved with a higher percentage of loans receivable to total interest-earning assets and a lower percentage of investment securities to total interest-earning assets, although the composition of total interest-bearing liabilities deteriorated with a decrease in the average balance of deposits and an increase 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 64,000 shares of common stock in the December 2024 quarter. For the fiscal year to date, we have distributed approximately $1.9 million of cash dividends to shareholders and repurchased approximately $2.4 million worth of common stock through our stock repurchase plan. Accordingly, our capital management activities have resulted in a 154% distribution of fiscal 2025 net income to date. You should also note that the Board of Directors approved a new stock repurchase plan last week. We encourage everyone to review our December 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. Bella, we will now entertain any questions that participants may have regarding our financial results.

Operator (participant)

At this time, I would like to remind everyone, in order to ask a question, press Star, then the number one on your telephone keypad. We will pause for just a moment to compile the Q&A roster. Your first question comes from the line of Andrew Liesch of Piper Sandler. Your line is now open. Please go ahead.

Andrew Liesch (Senior Equity Research Analyst)

Thanks. Good morning. Good morning. Donavon, question on the loan growth commentary here. It seems like production is going to be again towards the higher end. I guess if you look out, I mean, is this going to be like this maybe 50 to 60 basis points a quarter? How do you think, or when do you think growth can accelerate from this path? What needs to happen for that to occur?

Donavon Ternes (President and CEO)

Well, ultimately, mortgage interest rates need to decline from current levels to see large acceleration with respect to growth in the loan portfolio. Although the flip side of that, if we do see lower mortgage interest rates, we would also expect more loan prepayments with respect to refinance activity. So I think this quarter was approximately a 1.9% annual growth rate with respect to the loan portfolio. We would like to see that percentage grow as we look down the second half of our fiscal year and as we look toward our new fiscal year beginning July 1st.

Certainly, we think there's more opportunity in calendar 2025 with respect to growth than what we've seen in the past. And part of that is as well a flattening and upwardly sloping yield curve where it makes more sense for us to be more aggressive with respect to what it is we are doing in populating loan growth than when the curve was inverted and it didn't make as much sense for us to be populating loan growth.

Andrew Liesch (Senior Equity Research Analyst)

Got it. That makes sense. And then on the margin, now that speaking of the yield curve, it seems like there's still quite a bit of opportunities on the funding side, and you have some fixed-rate assets that might be adjusting higher or reaching their adjust period. Should that trend continue? I mean, maybe we don't see seven basis points of expansion, but should the margin be in an uptrend here from now on unless we see something different from the Fed?

Donavon Ternes (President and CEO)

Yes. I think we've reached that inflection point. In the September quarter, we expanded margin by 10 basis points. In the December quarter, we expanded margin by seven basis points. We would anticipate that margin will expand in future quarters as well. The interesting component that is a little bit different today than it was in the September and the December quarters, those loans that we are expecting to reprice in the March quarter are being forecast to reprice downward by five basis points. In the December and the September quarters, the loans that we're repricing were actually repricing up from their current interest rates.

So that's a flat or a little bit of a headwind with respect to margin. But on the flip side of that, our interest-bearing liabilities, as we described, $85.5 million of wholesale funding should be repricing downward in the March quarter. Those liabilities are currently priced at 4.5%, and we think we can reprice those liabilities into the high threes or low fours. So there's still a tailwind with respect to our funding costs as it relates to net interest margin, but there's not as much of a tailwind as it relates to the loan portfolio and what is going on with repricing there. Although, again, as we described the June quarter, we actually see and can forecast the loan portfolio adjusting upward. So perhaps it swings to a tailwind again in the June quarter.

Andrew Liesch (Senior Equity Research Analyst)

Got it. Yep. Makes sense. All right. Thanks for taking the questions. I'll step back.

Operator (participant)

At this time, if you would like to ask a question, press Star 1 on your telephone keypad. I will now turn the call back over to Donavon Ternes for closing remarks.

Donavon Ternes (President and CEO)

I'd like to thank everybody for joining our call this quarter, and I look forward to our call next quarter. Thank you very much.

Operator (participant)

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