Thank you for standing by. At this time, I would like to welcome everyone to the Provident Financial Services Inc. second quarter earnings conference 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 followed by one on your telephone keypad. If you would like to withdraw your question again, press star one. Thank you. Adriano Duarte, Investor Relations Officer, you may begin your conference.
Thank you, Cheryl. Good morning, everyone. Thank you for joining us for our Q2 earnings call. Today's presenters are President and Chief Executive Officer, 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 last evening's earnings release, which has been posted to the investor relations page on our website, provident.bank. It's my pleasure to introduce Tony Labozzetta, who will offer his perspective on our Q2 . Tony?
Thank you, Adriano. Good morning, everyone, welcome to the Provident Financial Services earnings call. The disruption to the banking system and resultant volatility that we all experienced in the Q1 has abated, Provident Bank fared well through the instability. These events, however, combined with more rate hikes by the Federal Reserve, gave rise to new headwinds for the banking industry in the form of funding challenges as we headed into the second quarter. These funding challenges included more demands by customers for higher rates, needs for more insurance, a disintermediation from low-cost deposits to higher-yielding time deposits, certain deposits shifting to treasury securities. Consequently, we experienced higher deposit betas for the quarter, which increased our funding costs and compressed our net interest margin.
Despite these unfavorable market conditions, Provident produced good financial results this quarter, which once again demonstrates the strength of our franchise and talented management team. As a result, we've reported earnings of $0.43 per share, an annualized return on average assets of 0.93%, and a return on average tangible equity of 10.75%. Excluding merger-related charges and normalizing the CECL provision for stabilized economic forecast, we estimate our core return on average assets was approximately 1.07% for the Q2 . Our capital is strong and comfortably exceeds well-capitalized levels. Tangible book value per share expanded 3.6% during the first six months to $15.66 on the strength of our earnings. Our tangible common equity ratio on June 30th was 8.72%.
As such our board of directors approved a quarterly cash dividend of $0.24 per share, payable on August 25th. Presently, our uninsured and uncollateralized deposits are $2.7 billion, or approximately 26% of our total deposits. Our on-balance sheet liquidity, plus borrowing capacity, is $3,800,000 or 140% of uninsured deposits. Our core deposits are a valuable component of our franchise. During the quarter, our core deposits decreased $55 million, or 0.7%, which we attribute to normal business activity and customers seeking higher yields on their deposits. For the Q2 our deposit beta was 148%, with the rising rate cycle-to-date deposit beta was about 25%.
Consequently, our total cost of deposits increased, and in large part drove our total cost of funds up 50 basis points to 1.71% and compressed our net interest margin 37 basis points. Our commercial lending team closed approximately $516 million of new commercial loans during the second quarter. Prepayments decreased 56% to $125 million as compared to the trailing quarter. Our credit metrics remained strong in the Q2 and we continue to maintain prudent underwriting standards, particularly in CRE lending. As part of our normal CRE monitoring processes, we have performed targeted in-depth analysis to evaluate portfolio and loan level risks. Our line of credit utilization percentage increased 4% in the second quarter to 35%, which is approaching our historical average of approximately 40%.
As a result of the improved production, reduced prepayments, and increased line utilization, our commercial loans grew $315 million, or 3.6% for the quarter. For the six months, we grew $296 million or 3.4%, which is pacing at an annualized growth rate of about 6.7%. The pull-through in our commercial loan pipeline during the second quarter was good, and the gross pipeline remains strong at approximately $1.7 billion. The pull-through adjusted pipeline, including loans pending closing, is approximately $1 billion, and our projected pipeline rate increased 47 basis points to 7.24%. We are encouraged by the strength and quality of our pipeline. In addition, pay offs have slowed. As a result, we expect to achieve our commercial loan lending growth targets for the remainder of 2023.
Our fee-based businesses performed well this quarter. Provident Protection Plus had an outstanding Q2 with 82% organic growth, which resulted in a 34% increase in revenue and an 87% increase in operating profit as compared to the same quarter last year. The conditions in the financial markets were more stable in the second quarter, and as a result, Beacon Trust experienced growth in market value of assets under management and related fee income. Beacon's fee income remained stable compared to the trailing quarter, as the increase in advisory fees was mostly offset by a reduction in trust revenue. With respect to our previously announced merger with Lakeland Bancorp, we continue our engagement with the regulators and have provided additional information in order to further support our application for approval of the merger.
The companies have made significant progress in various integration initiatives through outstanding teamwork from both banks. We look forward to receiving regulatory approval and combining our two great franchises into the best bank in New Jersey. As we look forward, we remain focused on growing our business. However, staying disciplined and committed to our risk management principles is critical during these challenging times. In addition, we expect to close and integrate the merger with Lakeland Bank in the near future, which we believe will create value for all of our stakeholders. Now, I'll turn the call over to Tom for his comments on our financial performance. Tom?
Thank you, Tony. Good morning, everyone. As Tony noted, our net income for the quarter was $32 million, or $0.43 per share, compared with $40.5 million or $0.54 per share for the trailing quarter, and $39.2 million or $0.53 per share for the Q2 of 2022. Non-tax deductible charges related to our pending merger with Lakeland Bancorp totaled $2 million in the current quarter and $1.1 million in the trailing quarter. Excluding these merger-related charges, pre-tax, pre-provision earnings for the current quarter were $55.3 million, or an annualized 1.6% of average assets. Revenue totaled $118 million for the quarter, compared with $130 million for the trailing quarter and $120 million for the Q2 of 2022.
Our net interest margin decreased 37 basis points from the trailing quarter to 3.11%. The yield on earning assets improved by 10 basis points versus the trailing quarter, as floating and adjustable rate loans repriced favorably and new loan originations reflected higher market rates. This improvement in asset yields, however, was more than offset by an increase in interest-bearing funding costs. Increased funding costs reflected current market conditions, which resulted in an increase in borrowings accompanied by a decrease in deposits. Certain non-interest-bearing balances also moved to our interest-bearing Insured Cash Sweep product in order to obtain increased deposit insurance. In addition, lower costing demand and savings balances shifted to higher costing time deposits. The average total cost of deposits increased 37 basis points to 1.42%. This brought our rising rate cycle to date beta to 25%.
The average cost of total interest-bearing liabilities increased 59 basis points in the trailing quarter to 2.13%. The prolonged inverted yield curve, ongoing deposit competition, and an increase in the attractiveness of investment alternatives continued to impact funding costs. As a result, we expect to see some continued net interest margin compression for the balance of 2023 and project the margin will stabilize at around 3%. Period end total loans grew $306 million, with commercial loans increasing $315 million for the quarter. Our pull-through adjusted loan pipeline increased $109 million from last quarter to $1 billion, with a weighted average rate of 7.24% versus our current portfolio yield of 5.24%.
The provision for credit losses on loans increased $4.4 million for the quarter to $10.4 million, primarily due to a worsened commercial property price index forecast. As a result, the allowance for credit losses on loans increased to 97 basis points of total loans at June 30th, from 91 basis points at March 31st. Current credit metrics, however, were stable and annualized net charge-offs were just four basis points of loans for the quarter. Non-interest income decreased $2.8 million versus the trailing quarter, as a $2 million gain related to a prior quarter sale of REO was realized upon the satisfaction of post-closing conditions in the trailing quarter.
In addition, deposit fees were down $612,000 versus the trailing quarter. Insurance agency income, while ahead of plan for the Q2 was $255,000 less than the seasonally strong first quarter. Excluding provisions for credit losses on commitments to extend credit and merger-related charges, non-interest expense decreased $4.5 million versus the trailing quarter, with $3.5 million of that decline coming in compensation and benefits expense, as incentive accruals, stock-based compensation, and employer payroll tax expense were all lower than the trailing quarter. Adjusted operating expenses were an annualized 1.83% of average assets for the current quarter, compared with 2% in the trailing quarter and 1.92% for the Q2 o f 2022.
The efficiency ratio was 53.29% for the Q2 of 2023, compared with 51.85% in the trailing quarter and 53.83% for the Q2 of 2022. That concludes our prepared remarks. We would be happy to respond to questions.
To ask a question, please press Star one. Your first question is from Mark Fitzgibbon of Piper Sandler. Please go ahead. Your line is open.
Hey, good morning, guys. Happy Friday.
Good morning, Mark.
Tony, I wondered if there's anything left that you all need to do, or provide to the regulators, or have you, you sort of done all that? Do you have any, any rough sense what the timing might look like for a closing on the Lakeland deal?
Yes, I mean, I, you know, what, what I can say to that is that, we, we, we have weekly meetings with calls with the FDIC to ensure that any questions that are open or anything that's pending has been provided on. We're what I look at this is like we're on the back end of that, right? We've given them everything they, that, that they need, to, to process the application. Will a question or two arise during, during their, their, what I would call a final analysis? Sure. You know, from my perspective, and I know I get guided by counsel not to, not to be, you know, too, too forward on this, it, it just appears that everything is there, and they have to go through their process.
I'm expecting it to happen, to happen relatively soon.
Great. Second question, Tom, on the expense trends, obviously they were great this quarter. It sounded like expenses might tick up a little bit in the Q3, Did I hear that correctly?
I think we'll be able to maintain in the $64 -$65 million range, Mark. I think like a lot of our peers, we're cognizant of the pressure that interest margin has put on, on earnings, and we're looking carefully at all our expenses.
Okay. I heard your comments also on the margin sort of bottoming out around 3%. Is that assumed in the Q3?
Yes, I think so, Mark. Comes in, comes in around three and stays there.
Okay. With the strong pipeline that you have, you know, given sort of the softening economic situation, how are you thinking about provisioning levels for the back half of the year?
You know, I, I think about the total coverage at 97 basis points. I don't really see it going much higher than that. That was really responsive to the economic forecast, in particular, the commercial property price index. We rely on Moody's baseline for our economic forecast, and I think they were a little bit slower than some other forecasters may be in catching up on, on their view of, of CRE potential losses. That said, our own uncertain is, is quite strong, as you saw. Really strong in the asset quality metrics overall and, and no concerns, you know, reflected in the current book.
Great. Thank you.
Your next question is from Bill Young of RBC Capital Markets. Please go ahead. Your line is open.
Hey, good morning, guys.
Good morning.
Can you hear me okay?
Perfectly.
Good morning.
Great. Maybe, maybe kind of a two-part question here to start. First, you know, on loan growth, you know, it, it looks like you, you're set up to have, you know, continued nice growth into the Q3 with, with the stronger, adjusted pull-through pipelines. Kind of, you know, what are your thoughts? You know, I guess, yeah, what are your thoughts on growth in the back half of the year? Then secondly, you know, can you kind of give us an update on your thoughts on funding going forward from here? You know, particularly given the loans to deposit ratio at, you know, close to 103%.
Sure. I, I might give it a long-winded answer on a two-part question. With regards to, to our, our, our lending, we think we're, we-- the pacing that I mentioned during the call at around 6.7% is something that is, i-in the wheelhouse. You know, we still guide to that 5%-6% growth rate. Pipeline is strong, the activity is strong, our underwriting is strong, so we, we feel pretty good about that sector. One other thing that to point out that, in the first half of the year, we, we've seen a substantive growth on the CNI side of the book as well. There's not that-- which is inconsistent with our plan, so not to rely so heavily on, on, on CRE lending.
Just to give you a quick metric on that, we did about 40% of our production was in CNI versus 27% last year at the same time. The teams are doing a good job executing on that, and I'm feeling really good. In terms of funding, I guess our expectation, if I were to just throw it out there on a macro basis, is that our aim is to probably try to keep deposits stable for the rest of the year. I don't think it's prudent to have strategies that to attract because it's very expensive to do that. That being said, we still grow a lot of our deposits through our business banking program, we still expect some good activity there and growth.
On the municipal side, I think that we hit new norms, and a lot of the excess money that was in municipalities through stimulus has gone out. Therefore, that we don't expect a lot of growth in that sector. We're, we're, we're aiming to maintain consumer deposits on, on a level basis, and I think if we can do that, it's a good achievement. That being said, how do you fund the growth? We're going to fund it through our business banking growth in terms of deposits. We're going to probably go to the wholesale market if needed, given that it's a better pricing play than trying to, to incrementally price your deposits through some campaign.
Lastly, we'll, we'll use some securities cash flows that come in, to, to divert those into, into the lending sector. I think that, you know, we're cognizant of loan-to-deposit ratios not going, you know, out of bounds, but our estimates show that they're still within the bands that we want to operate in. We're comfortable pushing for that 5%, 6%, as long as it's good, responsible growth, because it'll also come with some self-funding in that category.
I was just going to add, with some of our peers stepping back a bit in the lending arena, it affords us the ability to continue to be selective, both with regard to pricing and structure. We're getting looks at some quality loans.
Exactly. Long-winded answer, Bill. Hopefully, I gave you what you needed.
You did, and it wasn't long-winded at all. Thanks. Just I guess the second question, to, to kind of follow up on Mark's questioning on the margin. You know, it sounds like, you know-- does it, does it kind of feel like some of the, you know, deposit pressures that we saw in the Q2 are, are, normalizing or getting better so far in the Q3. It sounds like, you know, we're pretty close to the margin bottoming here. You know, with the Fed's hike earlier this week, was the last one for this year, do you guys feel better about, you know, your ability to, to kind of, you know, incrementally,
Yes
... see margin expansion as we get further out from this?
I do think that's the case, Bill. I think, you know, a lot of the industry and our, ourselves included, have caught up to, to a degree on the lag that we had on deposits, so we're, we're much closer to or adding market rates. I think that the funding pressure will abate some. I think we've been conservative in our NIM modeling in the assumptions around shift in, in composition within that portfolio. You know, to the higher-costing CDs, which we've seen on the consumer side, and recognizing the ICS product, which has a rate to it, as being one of the areas where we've seen growth as well. And, and the beta that we've applied to the most current hike is, is pretty significant too, to, to capture the rest of that lag, I think.
Yeah, I, I would just add on that, you know, we're hearing that from, from the business lines as well. If you kind of look back at the Q2 the delta between what we were where we were pricing and, and where the markets had moved, just kind of widened to a place where customers became extremely aware and, and obviously what happened in the Q1 with around liquidity. Every time there was a Fed hike, the, the customers were almost at, ahead of the Fed hike, looking for, for what's going to happen on their account. It hasn't happened this go around. This Fed hike, there was silence, and so we're seeing a much... I'm not suggesting that there's not any of it happening, but it was happening network-wide, and now it might be small pieces.
The expectation is, and I think it's consistent with some of what we're hearing from our, our peers, is that, that, that slowed down. The customers closed the gap between or, or the delta between market and, and, and where we were pricing. Kind of feels like it's leveling off. Secondly, we're not seeing any unusual irrational behaviors from, from our competition in the marketplace that would result in any dynamic of pricing and going into the third and fourth quarter. That also gives me a little, a little bit of, of solace to say, yes, we are kind of plateauing in that space.
I think Tom's projection on the margin, given that all of it is coming nearly from the funding side, pressure, that's why we can make that statement. Secondly, there is another element here in terms of the Fed's hike that Tom and I talk about, and that is that, you know, our assets will continue to price up, and if the behavior on the deposits kind of subsided, we might add a little bit of benefit in that category to stabilize any further.
On the asset side, within the loan book, 52% of that port is a variable rate, with 24% within that being floating. We saw the on rate move up to 6.375%, I think it was roughly in the Q2 . We saw the portfolio rate at 7.24%, and I'm sorry, the pipeline rate and the portfolio yield currently at 5.24%. If you look at the average balance growth in loans versus the spot balance too, you can see the average balance is lagging. Some of that production we saw in Q2, we're going to see greater benefit from in Q3. All those things are helping to maintain that margin by showing some nice improvement in asset yield over the projection.
I think it's probably a, a good time for me to also express that as an organization, we're very cognizant on risk and, and, and we're not doing anything from a, from a standpoint of trying to stretch in any areas to make up for this margin pressure. We're just going along, doing our strong business. We like the nature and quality of the loans that we're putting on, and we feel good about a lot of things, except, you know, just that the funding cost is, is market-driven. And, other than that, we're staying resilient to our risk management processes.
Perfect. Thank you very much for taking my questions.
Thank you.
Your next question is from Michael Perito of KBW. Please go ahead. Your line is open.
Hey, guys. Good morning. Thanks for taking my questions.
Good morning, Mike.
Tom, are you able to, maybe rehash or update us on, on kind of where. Obviously, some time has passed, rates have changed. Do you have new kind of pro forma capital ratios for the bank, assuming, you know, Lakeland closes in the back half of the year at some point, or, or a range or, or just some guideposts around how you're thinking about that?
Really trying to look where we stand versus total risk-based capital at the bank level. That's the weakest ratio among there. We're in excess of well-capitalized levels on our pro forma projections. They have improved over the course of the years. Both our companies have managed their capital and had good earnings over the course of the first six months.
You know, relative to what you guys communicated when the deal was announced, it sounds like they, they'd be modestly higher, just based on the capital build at both institutions?
That's correct.
Okay. I wanted to also just ask on the non-interest income side, if you have any-- apologies if I missed this, but if you have any kind of thoughts on the near-term outlook here. Then, and then, Tony, maybe a bigger picture question. I, I don't know, probably not, but there was a Midwest that actually s- you know, sold its insurance unit for what I thought was a very, very healthy revenue multiple. I know it's a business historically you've been pretty dedicated to and happy with, but just curious about w- you know, what your thoughts are there. You know, particularly if we're, you know, in a position where y- your loan growth is good and a little extra capital wouldn't hurt.
Is that an option you would consider or no? Then just again, to reiterate, just any thoughts on the near-term non-interest income guide would, would, would be great.
Sure. You know, you know, it's not. We, we recognize the value of our, our insurance entity. However, you know, they're, they're, they're producing somewhere around 40% return on, on, on, on that investment. We don't see this strategy peaking out. I think it can continue to, to elevate, and it's part of our strategic plan to have a greater percentage of our revenue be comprised of non-spread income. I think it, it's, it's an, an important part of our strategic planning direction. While that-that's out there, and I'm aware of it, I, I think it's and it's also a great value add for our customers. That's something that, that is, is entwined in there and is very hard to decouple relative to our strategy.
While that's out there, I think right now it's not a strong probability, but you, you know, you just you can't ever say no to anything in, in our business.
Yeah, we like the diversified revenue stream. We got a 35% EBITDA margin. The business is contributing nicely. I, I wouldn't touch it.
Yep.
Just to add to that, Beacon Trust, though, also had a nice quarter. We see AUM back up to $3.7 billion at the end of the period, $3.6 billion for the quarter. Net new clients of 8, about a 22.5% net margin on that business, too, so also contributing nicely.
Sure.
As far as outlook with the total non-interest income, probably being a little conservative, but I, I just kind of peg it at about $20 million a quarter, in the near term.
Okay. That's very helpful. Thank you guys for taking my questions and all the other callers this morning. Appreciate it.
Thanks, Mike.
Thanks, Mike.
Your next question is from Manuel Navas of D.A. Davidson. Please go ahead. Your line is open.
Hey, good morning. As, as the NIM stabilizes, does that, or do you think that NII dollar trough in the Q3 or, or more in the Q4?
Um, kind of-
On a quarter basis, you know, Lakeland will, will shift things.
Yeah. Yeah. Everything gets thrown off when, when the deal closes. I think, I think Q4 is when we were looking for the NII to drop.
Okay. Then, what's the rough cash flows on securities, if that's part of the funding profile?
Typically throws off between $16 million and $20 million a month.
Appreciate it.
And with the kind of the movement of the NIM, and the NIM trajectory, what are you kind of assuming, on through the cycle deposit betas and kind of where non-interest-bearing deposit mix ends up?
Yeah, we're at 25% through the cycle thus far. I think we're assuming something around a 32 for the, for the full projection period. Sorry, what was the other question?
Non-interest-bearing deposit mix percentage. Like, where does it kind of settle out? How much more it could-
Probably around.
-drop.
24, 23, 24.
I would agree.
Okay. That's, that's really helpful. It, it's probably early, do you have any thoughts on, on kind of how the environment may have shifted kind of the combined targets for, for Lakeland or, or kind of more, more, more to come on that, I guess? Just any initial thoughts on that?
Yeah, I think it's a little too early to go out there, till we get the balance sheets combined and see where, where the environment stands at that combination date. I think it'd be too speculative.
Okay. Very fair. I appreciate the comments.
Thank you.
There are no further questions at this time. I will now turn the call over to Tony Labozzetta for closing remarks.
Thank you. Well, thank you, everyone, for being on the call. as we know, these are challenging times, but I feel really confident in the management team at Provident. I think we'll tackle these challenges head-on and, and outperform. To that end, we look forward to getting together next quarter and sharing with you our results. Have a good day.
This concludes today's conference call. Thank you for your participation. You may now disconnect.