OceanFirst Financial Corp. (OCFC) Q2 2008 Earnings Report, Transcript and Summary

Greetings, ladies and gentlemen, and welcome to the OceanFirst Financial Corp. quarterly earnings conference call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. (Operator instructions) As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Ms. Jill Hewitt, Senior Vice President and Investor Relations Officer. Thank you. Ms. Hewitt, you may begin.

Thanks, Claudia. Good morning and thank you all for joining us. I am Jill Hewitt, Senior Vice President and Investor Relations Officer and we will begin this morning’s call with our forward-looking statement and disclosure. This call as well as our recent news release may contain certain forward-looking statements, which are based on certain assumptions and describe future plans, strategies, and expectations of the Company. These forward-looking statements are generally identified by use of the words believe, expect, intend, anticipate, estimate, project, or similar expression. The Company’s ability to predict results or the actual effect of future plans or strategies is inherently uncertain. Factors which could have a material adverse effect on the operations of the Company and the subsidiaries include, but are not limited to, changes in interest rates, general economic conditions, legislative or regulatory changes, monetary and fiscal policies of the U.S. Government, including policies of the U.S. Treasury and the Federal Reserve Board, the quality or composition of the loan or investment portfolios, demand for loan products, deposit flows, competition, demand for financial services in the Company's market area, and accounting principles and guidelines. These risks and uncertainties should be considered in evaluating forward-looking statements and undue reliance should not be placed on such statements. The Company does not undertake, and specifically disclaims any obligation, to publicly release the result of any revisions, which may be made to any forward-looking statements or to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events. Thank you. And now I will turn the call over to our host this morning President and Chief Executive Officer John Garbarino, Chief Financial Officer Michael Fitzpatrick, and Chief Operating Officer Vito Nardelli.

Thank you, Jill, and good morning to all who have been able to join in, in our second quarter 2008 earnings conference call today. This morning we are indeed pleased to be able to report on the continued turnaround of our operations in the quarter just passed. We appreciate your interest in our improving performance and are eager to review our latest operating results with you this morning. You’ve all had the opportunity to review of earnings release and following our usual practice, I will not be disrespectful of your time reciting a host of actual numbers from the release. My introductory comments will merely help frame our opportunity to add some color to the earnings posted for the quarter as we continue to distance our Bank from the troubles at our former mortgage bank subsidiary, Columbia Home Loans. We will also briefly touch on related issues in the front pages, loan portfolio credit quality and capital adequacy at OceanFirst. Diluted EPS for the quarter, of course, was $0.30 discounting the $0.06 impairment on an equity investment. Core operating earnings of $0.36 represent a 5.9% increase from the linked quarter and dwarfed the $0.02 for the corresponding prior-year period. The Company’s 46th quarterly cash dividend declared was $0.20 per share, unchanged for the 22nd consecutive quarter as our Board remains committed to maintain the dividend in the near term, consistent with strategic plans to rebuild our capital through our improved earnings stream and controlled asset growth. The quarter’s earnings have again benefited from an expanding net interest margin, which increased 2 basis points from the previous quarter. Absent the prior quarter’s nonrecurring 14 basis points of yield from an equity investment, however, the increase in margin was a more substantial 16 basis points. Earnings were impeded $0.06 a share by the aforementioned other than temporary impairment in that same equity investment during the past quarter. Interest earning assets also declined for the period and the continuation of professional fees and other administrative charges, lingering from the shutdown of Columbia, also resulted in higher than anticipated operating expenses albeit lower than in the linked quarter. Progress in this continues to be made and expected. Core deposits grew $44.3 million for the quarter but were partially offset by a $25.8 million in CD balances as we continue to exercise restraint in our CD pricing. The smaller balance sheet couples with our improved earnings bolstered our capital ratios as our tangible and core capital ratios grew to 7.83% and risk based capital topped out at 12.74%. As noted earlier, with the strengthening of our earnings stream, our cash dividend is secure for now as our capital levels help improve our capacity to generate liquidity at Holding Company. At this point, however, with continuing plans to conserve capital, we do not anticipate any change in our strategy with regard to share repurchase activity for the foreseeable future. We have noted before that COO Vito Nardelli has been the principal architect of our quick and efficient reaction to the damaging effects of our former subsidiary operations over the past year. I will ask Vito to again bring you up to date on the lingering Columbia operating expense and loan repurchase reserve performance as well as comment on core Bank credit quality.

Thank you, John. Good morning everyone. There is little doubt that credit quality remains foremost in everyone’s mind. I am pleased to reiterate that the reserves we had established and actions that we have taken with regard to Columbia subprime loans have generally performed as expected. While we have received full repurchase request through the end of the quarter, we see little merit in these requests and are vigorously contesting these claims. Even in light of these repurchase requests, our analysis indicate that the current reserves for repurchases is adequate. This reserve is at $1.7 million at June 30th, 2008, the same as the prior quarter end. We have not taken any portion of these reserves down as in prior quarters. Turning to the Bank loan portfolio, although nonperforming loans appear to be somewhat inflated at $14.4 million, or 87 basis points of the total loan receivable, those numbers include $5.3 million of residual Columbia loans, which have already been aggressively down to market. This reduces the amount of nonperforming loans in the core portfolio to $9.1 million. Of the core portfolio of nonperforming loans, $4.3 million is comprised of three commercial loan relationships, which are expected to resolve in the third quarter with no loss to the Bank. The first and largest represents a loan of $1.8 million, which is secured by real estate under contract for sale at $2.4 million. The second is a $1.5 million loan made to noted developer Solomon Dwek, secured by real estate under contract for sale at $1.8 million. The remaining $1 million loan is in technical default due to maturity, but is current as to payments and well collateralized at $2.9 million. Net of these three relationships, nonperforming loans would be at 61 basis points of total loans receivable. Our review of delinquency trends in our remaining loan portfolio continues to reveal some minor weakening, which is reflective of the economic climate, but still remaining below reported peer indices. Nevertheless, as a result of the increase in nonperforming loans, and net charge-offs of $220,000 for the quarter, we increased our second quarter provision to $400,000. As I have indicated last quarter, despite the efforts we had taken to reduce our operating expenses following the Columbia shutdown, some administrative expenses continue to bleed through to our operations. For the quarter, the Company recorded additional extraordinary expenses related to Columbia of approximately $400,000. These consist primarily of additional reserves posted for losses on Columbia leaseholds and various professional fees. We continue to look toward a quarter when these hold over expenses can be completely eliminated. With that I will return the discussion back to CEO Mr. Garbarino for some concluding comments prior to engaging in a question-and-answer session this morning.

Thank you, Vito. In closing, I would like to remind everyone that although our margin has benefited significantly from the extraordinary reductions in short-term rates owing the liability sensitive posture of our balance sheet we feel that the uncertainties surrounding future rate moves by the Federal Reserve will likely make significant margin improvement difficult in the near term. Nevertheless, the strength of our existing margin and noninterest income stream appears capable of maintaining the earnings momentum we have built in recent quarters absent extraordinary actions by the Fed or a major systemic economic shock. We plan to continue to exercise discipline in the pricing of our deposits and loans particularly CDs to both preserve our margins and protect profitable relationships wherever we can. As we have with several successful initiatives in recent years, we also continue to develop our noninterest income and above all else maintain our commitment to strong asset quality throughout the Bank’s portfolio. With that, Messrs Nardelli, Fitzpatrick and I will be pleased to take your questions this morning.

(Operator instructions) Our first question is coming from Frank Schiraldi with Sandler O'Neill. Please state your question. Frank Schiraldi – Sandler O'Neill & Partners: Good morning guys.

Good morning, Frank. Frank Schiraldi – Sandler O'Neill & Partners: Just a few questions here. Just wondering about first the margin expansion. Maybe a question for Mike. Do you expect to continue to see this through the remainder of the year?

Not at these levels, Frank. As John just indicated – it will – we expect to probably stay at a decreasing rate. Frank Schiraldi – Sandler O'Neill & Partners: Okay, and the borrowings, that’s all FHLB borrowings, right?

Right. Frank Schiraldi – Sandler O'Neill & Partners: And so can you share with us how much of that is repricing over say the next three and six months.

Yes, I can. Okay, yeah, the Home Loan Bank borrowings, the next three months is $55 million at a rate of 4.69 and then the next three months after that $63 million at 4.78, so in the next year there is some definite repricing opportunities down there in the Home Loan Bank borrowings, $118 million and that’s all going to reprice down. Frank Schiraldi – Sandler O'Neill & Partners: Right. Okay. And then just wondering on the equity investment. You mentioned in the release that you would either plan or you were going to sell a portion of it. Do you have any sort of idea – I think – correct me if I am wrong, it should be around like $5 million now, is that about what the equity investment is and if so how much are you planning to sell that and is there any penalties for the sale?

There is no penalties. The impairment took it down to just a little bit below $5 million. The actual impairment was $1.1 million and we had given notice to create a partial sale of it and with that the entire asset had to be written down and the write-down was $1.1 million because of the condition of the market, obviously. So we will be taking some of that down to develop some liquidity at the Holding Company. Frank Schiraldi – Sandler O'Neill & Partners: Okay. So that’ just – you just have plan to do that, you don’t have fixed number in your head right now, right?

No, because it’s not an absolute fixed number that we’ll take down. We will take it down as necessary to generate some liquidity. Frank Schiraldi – Sandler O'Neill & Partners: Got you.

The value of that asset is $4.7 million as of the end of the quarter.

That’s the written down current market. Frank Schiraldi – Sandler O'Neill & Partners: Right. Okay. Thanks. And on the deposit growth, I am wondering if you just give a little color on the deposit growth especially of checking account growth quarter-to-quarter it seemed pretty impressive.

Well, we had some – we had a couple of new branches opened recently and I think we have seen some benefit from that. We have also seen some benefit from our competitive vis-à-vis commerce with regard to our government banking as they are kind of withdrawing from the market as we had expected for some time following the TD Banknorth merger. And Frankly, Frank, we also see a resurgence of interest in savings passbook deposits. In our officers meeting this morning we just discussed that with our officer group at the officers meeting and we see a resurgence of interest in savings passbook, which I think is a flight maybe to quality by retail investor in terms of looking for a safe haven for their investment. We have fortunately enjoyed some positive publicity in the market vis-à-vis what you are hearing about Wachovia, B of A, and others that we compete against and I think that there is – that’s being reflected in some of our core account activity. Frank Schiraldi – Sandler O'Neill & Partners: Okay, so there is nothing really seasonal in there or anything, it’s just good growth.

No, I don’t think it’s seasonal. No, I mean the government deposits are always seasonal but that’ on a tax receipt basis as tax receipts build up so each quarter is as seasonal as the next. Frank Schiraldi – Sandler O'Neill & Partners: Right. Right okay. And just one last question if I could. I apologize if I missed this, but is there any issues now with dividending up money from the Bank to the Holding Company? Is that all been resolved or is that still sort of ongoing?

No, I think that’s always subject to regulatory review, Frank, as you would know. But I think what we have tried to say is that as we have rebuilt our capital ratios we feel more confident with our ability to generate liquidity at the Holding Company. Regulatory issues can always lurk around the corner and as you know regulators are always quite interested as to how much money is being dividended up from the Bank to the Holding Company, but right now with our improved liquidity – our improved capital ratios, we think we have enhanced our capacity to do that significantly. Frank Schiraldi – Sandler O'Neill & Partners: Okay. Thank you.

Okay, Frank.

Our next question is coming from Matthew Kelley with Sterne, Agee. Please state your question. Matthew Kelley – Sterne, Agee & Leach: Yeah, hi guys.

Good morning, Matt. Matthew Kelley – Sterne, Agee & Leach: Mike, you provided some good numbers there in the FHLB advances and repricing. What about those CD numbers for 3Q and 4Q?

It’s – yeah there is – well, $149 million maturing in the third – in 3Q, and $48 million in 4Q. So it’s a $198 million coming due in the next six months and that is 3.19. So that – there might be a little repricing down on that but not by much. That’s why we are saying that the CD portfolio is starting to benefit from that – starting to diminish. Matthew Kelley – Sterne, Agee & Leach: Right. And so where is the promotional CD product that you guys out there right now?

3% for ten months. Matthew Kelley – Sterne, Agee & Leach: Okay. All right, okay. And then the investment fund, is that one of the (inaudible) mutual funds?

No.

No. Matthew Kelley – Sterne, Agee & Leach: Okay.

It’s a – that’s an equity investment we’ve had on the books I think for about 12 years now and it’s performed well from quarter to quarter but obviously it – with the performance of financials over the last quarter it’s really getting hit pretty hard. Matthew Kelley – Sterne, Agee & Leach: Okay. Can you guys give us just a little detail on your trust preferred investments and kind of where those are carried at period end and how they break down your pools or single issuers kind of what you guys have?

Yeah, it’s $55 million on a book value basis. It’s 11 different issuers at $5 million each to get to the $55 million. They are trust preferreds issued by regional and national banks, 11 different issuers like I said, and the – no pools, all individual issuers. And the market value of that is about 20% off, so it’s about $44 million or so on that now is the market value, so that’s 20% decline. Matthew Kelley – Sterne, Agee & Leach: So, it’s $44 million you said?

Yeah. Matthew Kelley – Sterne, Agee & Leach: Okay. And that’s as of June 30th.

Yeah. Matthew Kelley – Sterne, Agee & Leach: Anything more up to date, I know there has been some dislocation there in that market throughout July as well or what has changed materially?

Well, it’s hard not to get prices at quarter-end for these trust preferreds because a lot of them as you know in that market they don’t trade very much. Matthew Kelley – Sterne, Agee & Leach: Right.

So, I suppose in the first couple of weeks they probably decline in value but I think in the last week they probably come back. Matthew Kelley – Sterne, Agee & Leach: Okay.

Market bouncing back, so I am not sure it’s much different all in. Matthew Kelley – Sterne, Agee & Leach: Okay. Alright. And then just getting back to the CD question, I know you guys have 3% 10-month product. How does that compare to other offerings in the marketplace? I mean we have heard from some of the other local competitors that deposit pricing is actually kind of really increased over the last couple of weeks, and months.

We see still some very irrational pricing of CDs in the market. The highest market – the highest price in that particular range right now is a 4% offering by Banc of America. That’s in the 9 to 11 months CD range. We have seen Wachovia be very aggressive. Wachovia is at 4.25 on a one-year CD. So, again, we have – and we see B of A at 4.11 on a six months CD. So, as I think we have talked about in recent calls, the traditional aggressive price competition has come from mutuals and thrifts. Matthew Kelley – Sterne, Agee & Leach: Right.

In our market we see it really from the largest bank competitors, B of A and Wachovia and can see to a great extent. Matthew Kelley – Sterne, Agee & Leach: Okay. And then thinking about the $180 million of advances that are going to reprice over the next six months, if you look at the current two-year fixed rate from the FHLB advance kind of rate sheet is at 3.95, so it’s almost 100 basis points more than your CD offering. I mean would you consider getting more aggressive on the CD offering or would you just put that type of a product on or would use a callable product on the borrowing side?

When we price our CDs, Matt, we look at immediately next to our Home Loan Bank advance rates and we will not exceed advance rates in our CD pricing, but we also look at our spreads for treasuries and we try and strike a balance. Most of our premium CDs right now are priced 35 to 40 basis points below advance rate. So we do have some room, but again we will love us to get very competitive there, and for us to move 35 basis points there still be 75 basis points under B of A, we don’t think is necessarily good business for us. Matthew Kelley – Sterne, Agee & Leach: Okay.

So B of A is going to pay 100 basis points over advance rates. We are not sure that we should chase them half way. Matthew Kelley – Sterne, Agee & Leach: Okay. And would you…?

That’s why when we talk about disciplined CD pricing I think we made that stick. That’s been the biggest benefit to our margin. Matthew Kelley – Sterne, Agee & Leach: Would you consider using a callable structure (inaudible).

We’ve looked at that, but we are not sure that that plays well on the retail market that we operate in. Matthew Kelley – Sterne, Agee & Leach: Okay, alright, thank you.

Okay, Matt.

(Operator instructions) We have a follow-up question coming from Frank Schiraldi with Sandler O'Neill. Frank Schiraldi – Sandler O'Neill & Partners: Just quickly on any expenses left with Columbia, again, I missed the beginning of the call, so I am sorry if I am repeating some but, how much was in the quarter and how much do you expect to be out next quarter and the quarter?

That’s $400,000 in the quarter. Frank Schiraldi – Sandler O'Neill & Partners: Okay.

That was primarily leasehold and professional fees and it’s unlikely that that would drop much in the third quarter. We may see some drop at the end of the year, into next year, but I think for the next quarter it will be comparable.

We still have some real estate that has to be leased that has to be sublet, if possible, that we are still holding, and as we review it on a – basically a six-month basis, we have made provision for that through the end of the year. We also have professional fees that linger on when you are talking about audit and attorney’s fees. And of course, we are still pursuing some significant claims against brokers and so forth. So we still got some bleed through and as I think Vito said, he looks forward to the day or the quarter when we can report a clean quarter, but I don’t see that in the near future. Frank Schiraldi – Sandler O'Neill & Partners: Okay. Thanks.

Okay, Frank.

(Operator instructions) Gentlemen, I am showing we have no further questions. I’d like to turn the floor back over to management for any closing comments.

Thank you. Thank you, Claudia. And thanks again for your interest in our Company this morning. We appreciate being able to report pretty substantial results in this current economic environment, and we look forward to similar results hopefully toward the end of October. Thank you much.

Ladies and gentlemen, this does conclude today’s teleconference. You may disconnect your lines at this time, and we thank you for your participation.