Matthew Switzer; Chief Financial Officer, Executive Vice President of the Company and the Bank; Primis Financial Corp
Dennis Zember; President, Chief Executive Officer, Director of the Company and the Bank; 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 Primis Financial Corp third quarter earnings call.
(Operator Instructions)
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 Primis Financial Corps 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 for 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 www.primisbank.com.
We undertake no obligation to update or revise forward-looking statements to reflect changed assumptions, the occurrence of un an 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 Zember.
Thank you. Matt. I 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 up front with a full Cecil 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’re in high gear working to catch up on all of our working keys and targeting to be fully current on our SEC filings by the middle of November.
Lastly, as we stated in our [NT filings] we still have an open consultation with the Chief Accountant’s office at the SEC regarding the accounting for this portfolio. And 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 the first, the core bank’s contribution to our results continues to improve the core banks cost of deposits. For instance, for the quarter was 2.21% compared to just too compared to 1.97% a year ago.
Alongside the recent rate cut, we made the necessary adjustments immediately to keep the margin and non-excuse me, 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 core bank cost of deposits is consistently 40basis points 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 buy to deliver noticeable convenience to the commercial customers and the leverage we have with our digital platform.
Secondly, the core bank 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 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 build unique digital capabilities that equally focused on deposits 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 6 basis points to 7 basis points.
We expect another five basis points of margin left 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 on board 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 relationship 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, pick up in the margin and about 13 basis points or so pick up in our return on asset.
The baseline OpEx 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 great during the quarter. We did conservatively downgrade one commercial real estate property that had been slow to lease up and really affected by vacancies and close or adjacent properties.
Our borrower has funded all of the cost overrun has never missed a payment and pledged additional collateral, but our appraisal 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 nonperforming and also believe we might have downgraded this asset, right as cap rates on CRE were peaking.
All right. With that map, I will turn it over to you for some comment.
Matthew Switzer
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 8-K 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 period 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 recorded derivative value representing the fair value of expected interest reimbursements mark to market each period with changes in that value recognized through non-interest income and all credit costs are fully recognized including estimated like to loan losses under Cecil. 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 fancy of 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 $4.5 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 and reported earnings is due to the timing of interest recognition on promotional loans where we are required to defer to the end of the promotion.
We recognized $3 million of interest catch up in the third quarter for promotional loans that exited the period and began advertising 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 recognize $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 margin.
We have $60 million of promotional loans deferring interest on 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 expenses $31 million which included $2.7 million of consolidated PFH expenses or $28.4 million 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.
Operator
(Operator Instructions)
Russell Gunther, Stephens Inc.
Hey, this is Nick Bellmann 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.
Dennis Zember
Should be relatively flat Nick.
Okay. And then going on Mortgage warehouse, do you plan to break that those loans out separately from a modelling perspective?
Dennis Zember
I think we would similar to everything else we’ve done. We, probably display it kind of like an operating segment. When you say modelling, you mean for maybe for loan loss reserving or for interest rate risk of or margin.
Yes, that’s what I mean. No loss reserve.
Dennis Zember
Yes, I mean, it’s going to be, not that material in the fourth quarter and depending on how the next couple of weeks ago. But as we move through ’25. we’ll, 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 [deck] said it will be either in 4Q of ’24 1Q ’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,
Matthew Switzer
What was, what were you referring to in the fourth quarter or first quarter.
When you start breaking out, when you start breaking out and disclosing the mortgage warehouse loans,
Dennis Zember
I mean, we’re sprinting to sort of add their customers and the fourth quarter and the first quarter are slower in the mortgage industry generally. So this is really a good time to, 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 sort of sprint into that and then maybe as we get into the first part of the year.
We continue to add, I mean, again, 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, through the middle of next year.
So really, we’re looking to replace call it, let’s say $400million to 450 million of life premium loans with these mortgage warehouse loans, and I think for the for next year, I think the average mortgage warehouse book, I think I feel comfortable at $400 million for the whole year.
Okay, great. That makes sense. And now on to ROA, so you previously laid out a target for a sustainable 1% ROA. Can you walk us or walk me through the flight path of when you think you guys are going to get there.
Matthew Switzer
We’ve got a reasonable shot to get there in the second half of 2025 second half, the late 2025. Part of that Nick is going to be 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 experiencing volatility but really only for largely a couple more quarters you potentially because most of the volatility is tied to these promotional loans and they’re, they bleed off pretty fast in the next 2 to 3 quarters.
So, setting all that aside, we’re moving off a pretty good size portfolio but going to be replacing it, almost dollar for dollar by the middle of ’25.
And we think at higher rates and incrementally better profitability, do you combine that with some decent expense say 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 market margin expansion on the core base. So, 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 look at how all that combines, we think that gets us to at least 1%. Yes, maybe more.
Dennis Zember
I mean, you can’t, I there are so many moving parts, but I mean, I think 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 7 basis points or 8 basis points to 10 basis points, trading life premium for the warehouse opportunity like we said, it’s probably 13 basis points.
The core bank no question rates falling like I said, with $1 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 going to power more margin and more ROA. So again, like I’m like I was saying, I mean, the energy and enthusiasm we have for the line of sight to the to the numbers you’re talking about or better. It’s really good. It’s anyway, I’ll leave it at that.
No, that’s perfect. That helps a lot and that’s it on my questions. Thanks for answering them.
Operator
Christopher Marinac, Janney Montgomery Scott.
Christopher Marinac
Hey, good morning. Thanks for hosting us. Matt, just a quick housekeeping question. So the numbers we see in the press release and the core release, those are going to, those reflect toward the new information and that will be kind of verified once the cues are filed. Do I do I have that right.
Matthew Switzer
Yes. And those are all, all the quarters restated for the change in accounting. So it’s all been
Christopher Marinac
Got it.
Matthew Switzer
Backwards.
Christopher Marinac
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 behave impact those at all.
Matthew Switzer
No, those are not, those are not reflected in this.
It’s those loans, you know, our typical consumer loans, they get the 90 days, and they charge off.
Christopher Marinac
That’s what I thought. Okay. And then the trend on just general, you know, coming and goings on, you know, commercial criticized and special or substandard,
Matthew Switzer
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 not, 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 we, this came out of the blue or with some surprise, maybe the valuation, that we had to rely on when we put the reserve on the bigger on was a little bit of a surprise, but we think that’s very conservative. And the customers continue to pay. So, unfortunately, you still have to use their appraisal when it comes in.
So, but otherwise, I can’t think of any credits that have moved into a problem bucket or started to creep up the risk waiting curve that we weren’t already aware of, or I’ve been watching.
Christopher Marinac
Great. Thank you for that colour. And then another question just goes back to the cost of funds, should, 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 4 to 5 quarters.
Matthew Switzer
So, the first part of your question, yes, I mean we saw cost of funds tick down in September. So, it is basically peaked in August. As to beta’s, some of it’s going to depend on, I think what happens with the next be cut. It feels like competitors have lower rates and we have to, 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. I can’t, 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 bed cut.
If they do cut again, we’re still going to cut but some of it dictated by the competitive environment and, and what they’re doing with their rates. Not as many people seem to have been aggressive cutting after that first move.
Dennis Zember
And 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, we did not make a lot of adjustments on the digital deposit there’s $915 million 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, on the customer experience here in about a month.
And we think there’s another right 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 some broker deposits that we have that are coming up in December. I mean, there’s $ 1billion 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 is going to do and, get past our conversion. So, I mean, I know you and your question about, have we peaked? There’s no question we peaked. I think, how much we can get out of that ahead of maybe having 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 no noticeable improvement in cost of funds.
Matthew Switzer
And even on the digital bank and what Dennis is referring to, we were, we’ve been 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.
Christopher Marinac
Okay, great. Yes, 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.
Matthew Switzer
Yes.
Christopher Marinac
Okay, great. Thanks for all the information today as always. And I appreciate you hosting the call.
Operator
There are no further questions at this time. I’ll hand things back over to Dennis Zember’s CEO for some final remarks.
Dennis Zember
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.
