Primis Financial Corp. (FRST) Earnings Call Transcript

Hello, everyone. Thank you for joining us, and welcome to the Primis Financial Corp. Second Quarter Earnings Call. [Operator Instructions] I will now hand the conference call over to Matthew Switzer, Chief Financial Officer. Matthew, please go ahead.

Good morning, and thank you for joining us for our second 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. Further 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, primisbank.com. We undertake no obligation to update or revise forward-looking statements to reflect changed assumptions, the occurrence of 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 our non-GAAP measure relates to the most comparable GAAP measure will be discussed when the non-GAAP measures is used if not readily apparent. I will now turn the call over to our President and Chief Executive Officer, Dennis Zember.

Thanks, Matt, and thank you to all of you that have joined our second quarter 2026 conference call. We are very pleased with our second quarter results and pretty excited about how things are moving going into the last half of '26. When I compare our current results to last year, I see strong growth in revenue, very, very contained operating expenses, increasing net interest margins, lower efficiency ratios, lower levels of nonperformers, steady growth in earning assets, growing levels of noninterest-bearing checking accounts and importantly, tangible book up over 20% from last year. Lastly, really nice to see some stability, Matt, return to our operating results, which I believe is critical to making sure our work is appropriately valued. For the second quarter, we're reporting net earnings of $9.4 million or $0.38 per share compared to $2.4 million or $0.10 a year ago. During the current quarter, we did book a gain on the sale of an investment in an insurance agency of about $5.9 million, and we fully offset that with a legal settlement and a reserve build on our largest office CRE. Because these items launched, I believe our stated ROA for the quarter of 90 basis points is really the recurring level that we're working with, and I'm very pleased to see this kind of improvement. These results include a net interest margin of about 3.45%, up a couple of basis points over last quarter, but up almost 60 basis points over the same quarter a year ago. That margin growth comes alongside steady earning asset growth, which has happened for several years now. For the quarter, we averaged about $3.9 billion of earning assets, which is up about 11% compared to the same time a year ago. The increase in margins and earning assets, combined with really strong performance from our mortgage company allowed us to have our first quarter ever with more than $50 million of core revenue. That level is 40% higher than it was a year ago. Making sure that, that revenue moves to the bottom line is critical and the recurring pitch we've had with investors is that operating leverage will be our main strategy. Matt can give you a lot more context, but I'm showing that our core OpEx is up about 16% over the past year compared to the 40% growth in revenue I just talked about. Of that 16%, 7.3% is tied to the increase in mortgage revenue and 4.7% is tied to the lease expense from the sale leaseback. So actual growth in OpEx, the real controllable part is reliably less than 5%. This is outstanding work by our executive team and our staff and has totally reset the operating performance you can expect from our bank. In the quarter, we had a nice improvement in credit quality with nonperformers moving down by 36%, thanks to a single C&I loan that was refinanced elsewhere. And then additionally, we were able to upgrade a mixed-use commercial project that finally reached stabilization. So collectively, classified assets declined by about $53 million or 36% and as we stated earlier, we built additional reserves on our largest office loan by about $5.3 million in the quarter. Lastly, before I turn it over to Matt, we announced in the press release a series of earnings improvements that are coming out of our core consolidation project. Altogether, we believe the impact on next year's results is about $7 million pretax, which includes zeroing out the amortization expense from the original bill of the court. This set of improvements is about 13 or 14 basis points in the ROA. It's about $0.22 per diluted share. That's important. But from a strategic standpoint, what is so special or noteworthy about this is that I firmly believe that this announcement all but guarantees another 1.5 years of outsized operating leverage similar to what we've put up this year. That's very exciting for our team and our Board, and we believe should meaningfully improve the kind of results we put up in '27. Matt, with that, I will turn it over to you.

Thank you, Dennis. As a reminder, a discussion of our financial results can be found in our press release and investor presentation located on our website and in our 8-K filed with the SEC. As Dennis mentioned, Primis reported earnings of $9.4 million or diluted earnings per share of $0.38 in the second quarter compared to $7.3 million or $0.30 per share in the first quarter of '26 and $2.4 million or $0.10 per share a year ago. Return on average assets was 90 basis points versus 76 basis points in the first quarter and 26 basis points a year ago. There are a few notable puts and takes in the quarter that I'll review in more detail later in my remarks, but on balance, it was a quarter of solid operating results with pretax pre-provision operating net income of $11.7 million, up 185% from $4.1 million a year ago. Turning to the balance sheet. Gross loans held for investment increased approximately 8% annualized from March 31 to June 30 and were 11% year-over-year, led by continued growth in Panacea and mortgage warehouse. Average earning assets increased approximately 14% annualized in the second quarter and were up 11% compared to the year ago quarter. Average deposits were up approximately 12% annualized in the quarter and average noninterest-bearing deposits were up approximately 24% annualized, with average noninterest-bearing deposits representing 16.3% of average total deposits in the second quarter versus 14.3% a year ago. Net interest income was approximately $33.8 million, up from $32.1 million last quarter and $25.2 million a year ago. Our net interest margin in the second quarter was 3.45%, up from 3.43% last quarter and 2.86% in the year ago period. The improvement reflected robust earning asset growth funded at attractive incremental margins with 3 basis points of linked quarter expansion in the yield on earning assets. Core bank cost of deposits remains very attractive at 1.6% for the quarter compared to 1.79% in the same quarter last year. Cost of total deposits was 2.25% in the second quarter, up 1 basis point linked quarter and down 28 basis points year-over-year. Cost of interest-bearing deposits was 2.69%, down 25 basis points from the same quarter last year, and total cost of funds was 2.46%, flat with the first quarter and down 21 basis points year-over-year. Our focus on growing noninterest-bearing deposits remains a key part of our strategy to continue controlling funding costs as we grow the balance sheet. Our provision this quarter was $5.5 million compared to $1.5 million in the first quarter and $8.3 million a year ago. Approximately $5.3 million of the second quarter provision was related to specific reserve additions for one nonaccrual credit. Absent this item, improvements in specific reserve amounts largely offset provision amounts related to portfolio growth and the consumer loan program. Nonperforming assets, excluding portions guaranteed by the SBA, improved to 1.45% of total assets at quarter end from 2.35% at March 31 and 1.9% a year ago. Core net charge-offs were 53 basis points in the second quarter, up from 6 basis points in the first quarter and 15 basis points a year ago, driven by one nonaccrual loan that was resolved in the quarter. Noninterest income was $22 million in the quarter versus $13.6 million in the first quarter and $18 million a year ago. Second quarter included a $5.9 million pretax gain from the liquidation of an insurance agency investment, while the year ago quarter included a $7.5 million gain on the company's investment in Panacea Financial Holdings. Mortgage-related noninterest income grew 44% year-over-year to $11.4 million in the second quarter and Primis mortgage closed volume was $421 million, up 30% compared to the second quarter of '25. We also reported $1.6 million of gain on sale income related to the sale of Panacea loans and guaranteed portion of SBA loans, including approximately $237,000 attributable to the core bank. On the expense side, when you exclude mortgage and the Panacea division volatility and nonrecurring items, our core operating expense burden was approximately $25 million versus $22 million in both the first quarter of this year and the second quarter of last year. As previously disclosed, the first and second quarters of '26 include a full quarter of lease expense net of reduced depreciation of approximately $1.4 million from the sale-leaseback transaction executed in the fourth quarter of '25. The second quarter also included several discrete expenses, including $1.1 million related to the settlement of a previously disclosed mortgage lawsuit, $0.4 million increase in loan-related expenses and $0.2 million of higher marketing costs. There was also approximately $900,000 cumulatively of small expenses related to the company's recent shelf filing, by exchange fees and the core conversion project. We expect the noninterest expense burn, excluding mortgage and Panacea to return to the $22 million to $22.5 million range in the third quarter of this year. I would also like to briefly add to Dennis' comments on how we are thinking about operating leverage from our core consolidation initiatives and artificial intelligence. During the last 6 months of planning for the core conversion, we have identified $6.1 million of expected earnings improvements from fully converting the core bank in all divisions onto our real-time fully digital core. These improvements are equally centered on revenue and expense opportunities with $3 million of revenue improvements as we rationalize products and fees and $3.1 million from contracts and vendor consolidation and will largely be in place in early 2027. These amounts are real, and we believe highly achievable in the time frame highlighted. This also does not include the amortization expense related to capitalized platform development costs of $0.8 million per quarter that will end in the third quarter of '27. Lastly, we are also in the beginning stages of deploying AI tools and agents to drive ongoing productivity improvements that we believe will allow us to limit expense growth and maintain strong operating leverage for the foreseeable future. In summary, we are excited to report another solid quarter with continued year-over-year improvement in profitability, net interest income, margin, asset quality and tangible book value per share. We believe the balance sheet momentum, core consolidation work and ongoing productivity initiatives keep us on track to hit our profitability goals and put us on a path to superior returns. With that, operator, we can now open the line for Q&A.

[Operator Instructions] Your first question is from Woody Lay with KBW.

I wanted to start on the net interest margin. Now it feels like we're in a higher for longer and it feels like a general theme this earnings period has just been the magnitude of competition, both on the loan and deposit side and what that's meaning for pricing. So I'd love to just get your thoughts on how you see the NIM outlook from here.

Similar to what we discussed on previous quarters, we're -- we think where we are right now, plus or minus a basis point or 2 is probably where we'll be for the foreseeable future. We are seeing some pressure on the earning asset side, maybe a little less so on the funding side, but certainly some pressures in the loan pricing. But we have some levers there. A notable one is we have some subordinated debt that's available to refinance that we think we're going to be able to do at some point in the next quarter or 2 and will save us probably between 200 and 250 basis points on the cost of that debt. So that will -- should more than offset any incremental pressures on the margin from the balance sheet.

Got it. That's helpful color. And then maybe shifting over to credit. It was great to see the quarter-over-quarter NPA improvement. I was just hoping to get an update on that larger office CRE credit that's still on the books. And could you just remind us what the total reserve -- total specific reserve you have against that credit is now?

Yes. It's a little over $11 million of reserve the credit, that borrower is still working with us and investing in T&I and commissions to lease it up. We did have relatively large lease, at least the LOI for it signed in the second quarter. So it's -- there is activity and the borrowers working hard to get it leased up. We're working with them as best we can. But we do have a pretty healthy reserve on it at this point. a couple of million dollars of cash reserves, almost $2 million of cash reserves. The borrower is making payments. So it's in nonaccrual, but not 90 days past due. The borrower does, like Matt said, invest. But just -- we just want to keep adding reserves there whenever we can to reduce whatever kind of earnings volatility might come out of that.

Yes, that makes total sense. And then last for me, in regards to the core conversion, those additional impacts you're planning that could begin in the run rate in '27. Are there any larger onetime costs remaining with the core conversion that we should expect?

Not overly significant. I mean we may have smaller implementation fees here and there in the next couple of quarters, but we're talking like a few hundred000, nothing really not.

Your next question comes from the line of Russell Gunther with Stephen.

I wanted to start on the loan growth outlook. Really strong first half of the year, good 2Q. I think, Matt, you mentioned even a larger C&I payoff in the quarter and growing through that. Would be helpful to get a sense for how you're thinking about loan growth in the back half of the year, both from an order of magnitude and asset class perspective.

I mean I'll start back and we've not had a lot of Panacea growth this year. We've been selling most of that. Tyler has got a good flow agreement. I think we'll see more growth on that side of the balance sheet in the second half of the year mortgage warehouse, we keep rates up as tremendously as they are, thought that, that might slow down. But actually, new customer acquisition and sales efforts there have countered that trend. And so I still think there's a little bit of risk on growing mortgage warehouse. I think we can probably hold something close to the levels that we're at. I think maybe even go up if you ask our yay, I think he'd say we could go up from here just given the pipeline. But I don't think it will be as tremendous as what you've seen for the first half of the year. And the core bank has got a great pipeline. So I think all 3 together, I think the back half of the year probably will look a little bit like the first half of the year. Yield-wise, I think they're definitely incremental to where you see where our loan book is right now. And I don't see really -- just back to Woody's question about margin. I don't see anything incrementally with growth that would be dilutive to the current margin and you see where we're growing deposits in core bank, warehouse, digital versus earning asset growth, I still think it's positive and incremental to the margin.

Yes, I agree with all that.

That's helpful, guys. And yes, look, the debt calls out with some nice fixed repricing over the next few quarters as well. So good to see. Matt, you mentioned with regard to the margin, more pressure on the average earning asset side incrementally relative to deposits. I think as we're wrapping up the end of earnings season here, a lot of focus has been on just incremental deposit costs as a headwind to margin. So how are you guys kind of defending against that?

Well, the nice thing is a lot of the growth in the first half of the year has been mortgage warehouse, and they fund about 10% of their growth themselves with essentially pretty close to noninterest-bearing. They have a little bit of interest expense, but it's by and large, all noninterest-bearing. So it's been very additive from a mix standpoint. Digital bank has shown some nice growth at similar rates to where they've been in the last quarter or 2. And some of that's actually been small business driven, which has been nice to see. And the core bank has done a really good job growing in footprint. So I mean we're not -- I'm not saying we're immune to pressures on deposit costs, but arguably, we have a few more levers that we can pull than a lot of other banks that are helping us stay pretty consistent to where we've been.

I think adding to that, I think our digital advantage, our national advantage just continues to pay dividends. I think even with rates being up a little, I guess, on the short-term side, maybe not. But with the attitude of higher rates, it's really not affected what we're doing on digital. I think we're still at a competitive level. And there are a lot of banks. I've seen that Russell reporting a little more pressure on the deposit side and maybe the margin build that the industry has seen has kind of reached an end because a lot of it has been sort of funding driven. But for us, I don't think we probably never harvested all of the deposit opportunity anyhow because we have so much earning asset growth. And so I think we're probably in a better position on the deposit side.

Understood. Okay. That's helpful context, guys. And then just last one for me on the expense side of things. Matt, thanks for level setting us in terms of where that kind of core expense run rate should end 3Q. I just wanted to clarify in terms of the incremental expense initiatives, that $3.1 million is really incremental to anything you've called out in the past? And if so, it looks like it's an early '27 event, how you would expect that kind of core expense run rate to maybe exit 4Q or trend over the course of next year?

I think that our expectation is that 22 to 23 -- to 22.5, whatever you want, somewhere in that range is kind of our baseline for the next few quarters. And then the savings from the consolidation will be incremental to that down.