Sterling Bancorp (NYSE:STL) Q4 2019 Earnings Conference Call January 23, 2020 10:30 AM ET
Jack Kopnisky – President, CEO and Director
Luis Massiani – CFO
Emlen Harmon – Director of IR
Conference Call Participants
Casey Haire – Jefferies
Steve Moss – B. Riley FBR
Alex Twerdahl – Piper Sandler
Dave Bishop – D.A. Davidson
Collyn Gilbert – KBW
Steve Duong – RBC Capital Markets
Matthew Breese – Stephens Incorporation
Good day, and welcome to the Sterling Bancorp Q4 2019 Conference Call. Today’s conference is being recorded.
At this time, I would like to turn the conference over to Jack Kopnisky. Please go ahead.
Good morning, everyone and thanks for joining us to present and discuss our results for the fourth quarter and fiscal year 2019. Joining me on the call is Luis Massiani, our Chief Financial Officer; and Emlen Harmon, our newly appointed, Director of Investor Relations.
We have a presentation on our website, which along with our press release provides detailed information on our quarterly and year-end results. During the call, we will highlight our strong quarterly and year-end financial metrics resulting from strong targeted commercial loan growth, diversified deposit growth, solid fee income, continued strong credit quality, superior levels of capital and significant cost controls.
In the fourth quarter, we were able to execute several strategic actions that will continue to remix the balance sheet to enable the Company to produce increased earnings and positive operating leverage in 2020 and beyond.
During the quarter, we acquired a targeted $839 million equipment finance portfolio, issued $275 million of sub-debt at favorable rates, continued to reposition our balance sheet and earning asset mix and repurchased $4 million shares of stock.
On an operating basis, our fourth quarter results were strong. Adjusted net income available to common shareholders for this quarter was $109 million, a 3% increase over the linked-quarter. Adjusted earnings per share of $0.54 was $0.02 or 4% higher than the linked quarter and the fourth quarter of 2018. Adjusted return on average tangible assets was 151 basis points and adjusted return on average tangible common equity was 16.6%.
Our efficiency ratio continues to be among the industry leaders at 40%. Our tangible book value per share of $13.09 increased 1.5% over the linked quarter and 11.1% over December 2018. The EPS of $0.54 and tangible book value of $13.09 were record levels for our Company.
During the quarter, we continue to remix the loan and securities portfolios to achieve higher risk-adjusted returns. Total assets increased by $500 million during the quarter as we are now in a position to grow the overall balance sheet given that most of the balance sheet repositioning is behind us.
We continue to produce strong loan growth. For the quarter, inclusive of the equipment finance portfolio acquisition, commercial loans grew $791 million or 4.4% over the linked quarter. On an annual basis, targeted commercial loans grew $2.8 billion or 17.2%.
During 2019, we reduced low yielding residential and consumer loans by $566 million, resulting in total growth in portfolio loans of $2.2 billion or 11.6%. Commercial real estate, public finance, mortgage warehouse, and lender finance portfolios have all grown organically by more than 10% year-over-year.
We had a strong quarter for deposit growth. Total deposits increased by $839 million on a spot basis at year-end. Average deposit balances increased by $1.5 billion over the linked quarter. As the seasonal municipal balances declined in the quarter, we were able to replace and grow core commercial and consumer balances, direct bank and broker deposits at more favorable rates. Deposit costs declined by 3 basis points from September 30, 2019, and overall weighted average funding cost declined by 10 basis points.
We are focusing on reducing deposit costs in the targeted high-cost municipal relationships and a $1.2 billion consumer CD portfolio that will reprice by March 31, 2019. We expect to lower deposit costs by 5 to 10 basis points in the first quarter of 2020. Our mix of products, channels and funding sources, provide flexibility to grow balances, while we lower funding costs.
Our core net interest margin, excluding accretion income on acquired loans, was 313 basis points for the quarter. The declining interest rate environment has resulted in lower asset yields on our floating-rate loans and securities that comprise approximately one-third of our assets.
Coupled with competition for deposits, our net interest margin has been pressured, but we have been able to maintain a stable core net interest margin over the past 18 months as a result of our remixing our earning assets and our focus on controlling deposit costs. Assuming no changes in the rate outlook, we anticipate that our core net interest margin will remain in a 315 to 325 basis point range into 2020.
Just a note on the core interest margin. We held significant cash balances in the quarter to purchase the equipment finance portfolio. If these cash balances would have been invested, the margin would have then approximately 317 basis points.
Core fee income growth continued to be solid as a result of commercial loan fee income, swap fees, treasury management fees, and portfolio fee improvements. Adjusted fee income was a $117 million and grew by $15 million or 15% over the full year 2018.
Core expenses exclusive of amortization of intangibles increased modestly from the year-ago quarter to a $105.5 million or up 1%. We continue to aggressively reduce our financial center network and staffing and have reallocated a portion of the reductions to support growth in the commercial teams, technology and enterprise risk management.
In 2019, we consolidated 24 financial centers resulting in any two financial centers at year-end. We expect to be under 80 financial centers in 2020. Overall, our expense run rate for the quarter equates to an annualized operating expense level of $419 million. As we indicated in our earnings presentation, we expect operating expenses will be in the $420 million to $430 million range for 2020.
Credit quality and capital levels remained strong. Charge-offs decreased by $5 million over the linked-quarter as we disposition previously identified, equipment loans on an annualized basis. The $9.1 million of charge-offs represent 17 basis points of loans. The levels of non-performing loans and delinquency levels improved this quarter.
Substandard loan categories increased but these increases represent secured performing and appropriately marked loans. Given a stable economy, the low rate environment, regulatory oversight and the mix of our portfolio, we expect to continue to see strong credit quality in 2020.
Total tangible common equity to tangible assets was strong at 9%, and total risk-based capital at the bank was 13.6%. During the quarter, we repurchased 4 million shares and have 1.6 million shares remaining in our repurchase authorization.
We continue to evaluate the use of excess capital for investment into our core business, share repurchases and dividend payouts. We were able to execute a favorable $275 million debt issuance in the quarter that will refinance existing debt due in mid-2020 from the Astoria transaction and provide growth capital for our Company.
One of the core fundamental elements of our culture is our focus on constantly reinventing our Company. We believe that great companies constantly change, adjust and improve to meet the demands of our shareholders, clients, and colleagues. Our objective has always been to position the Company to be a high-performance organization, regardless of changes in the economy, rates or the competition.
The majority of questions we receive from investors relate to the dynamics of growth in later cycle lower rate environments. I would like to highlight that some of the steps we have taken across a number of areas to position us for continued steady growth.
While producing record tangible book value and EPS over the past year, we have also successfully remixed the asset side of the balance sheet by exiting non-relationship, low yielding residential and multi-family asset classes, and replacing them with targeted relationship-oriented higher-yielding CRE and C&I loans.
We have made this transition by organic originations through our 35 commercial relationship teams and by acquiring targeted high-quality loan portfolios. We originated a record $1.6 billion in commercial loans organically this year and acquired two portfolios totaling $1.2 billion for total commercial loan growth of $2.8 billion in 2019. We have the ability to continue to grow the commercial side of the Company and related revenues now that the majority of this transition is complete.
The combination of these efforts and steps we have taken to manage our liabilities have successfully repositioned our balance sheet to maintain a steady year-over-year core net interest margin, despite 75 basis points of Fed funds reductions, a flatter yield curve and a competitive environment for deposits.
We have developed multiple funding sources that have distinct volume, cost, rate and term attributes. The financial centers, commercial teams, digital and wholesale channels enable us to have options and how we fund growth.
The fourth quarter provided a good illustration of this capability as we grew our overall deposits by $839 million despite nearly $250 million in seasonal municipal runoff, while also lowering our cost of deposits by 3 basis points. We will continue to refine existing channels and seek new funding channels.
Our credit quality has remained exceptionally strong. For the past eight years, we have focused significant resources on creating a best-in-class risk management program. Over the past year, we have enhanced our credit group by acquiring significant talent and technology to support growth and deal with future credit cycles.
Overall, our CRE portfolio has a loan-to-value of less than 48% and a debt service coverage of 1.68 times. Our C&I portfolio is 97% secured within margin by accounts receivable, inventory or equipment. We believe credit quality will be strong for the near future, given a stable economy, low rate environment and tightened regulatory standards across the industry.
We are confident in our model and our ability to meet and exceed our growth and return targets in the future, even in a lower rate environment. The past year was challenging due to the rate changes and the flatness of the yield curve.
We successfully repositioned the Company to deliver in 2020 and beyond positive operating leverage and strong earnings per share growth, return on average tangible assets of 150 basis points or greater, return on average tangible common equity of 16% or greater, efficiency ratios of less than 40% and growth in tangible book value of greater than 10%.
We continue to point to the information on Page 4 of the presentation that reflects the overall results of our actions over the past several years. Over the past five year period ended – ending December 31, 2019, our adjusted earnings per share growth compounded at an annual growth rate of 21%, and our tangible book value per common share has grown at 15%.
Thanks. And now let’s open up for questions.
[Operator Instructions] We will now take our first question from Casey Haire from Jefferies. Please go ahead.
I wanted to start on the buyback. The guide says for a minimum of 1.6 million shares, and I know that’s the same amount of pure authorization. I think there’s a little bit of confusion that – in the market that the buyback is poised to slow. Just we’d like to get your thoughts as to the total capital return ratio in 2020 versus that 105 million level in 2019.
Yes. So we – so the 1.6 million is what we have remaining, and we’re going to see that through, as we have talked about in the past. We are currently working on increasing that buyback authority. And so we – without providing specific numbers, that’s exactly what we’re going to do from that perspective. You should assume that we’re going to have an increase in our buyback authority similar to what we have done in 2018 and 2019.
And as long as we continue to generate and see continued progression of internal capital generation and the growth that we’ve outlined in the presentation, and you can safely assume that we will continue to be quite active on the buyback front.
Now, when you think about the numbers from this year of us, buying back 19 million shares over the course of ‘ 19, we will see if that is the same. It will depend on how things progressing over the course of the year, balance sheet growth, pipeline build, potential opportunities that show up, the portfolio acquisitions if they do down the road. So there will be some flexibility there, but we will continue to be quite active on the buyback going forward.
So there is – we don’t have a – 19 million like we did this year is unlikely to repeat that because we see better growth opportunities this year than what we had in the past. One of the reasons as to why we bought so many shares this year is that when we sold close to $1.6 billion of residential mortgages, which did create some excess capital capacity that we had.
But we’ll continue being very active in it and we should assume that on average, we’ll be actively buying back somewhere between $2.5 million to $3 million – 3 million shares every quarter.
So switching to NIM, first off, just to clarify, so you guys – your 3.15% to 3.25% NIM does assume a Fed cut. What would that forecast look like if we did not get a Fed cut?
We’re pretty as it – we’re pretty neutral from the perspective of the – at Fed cut. So again if it is just one or none? I think you’d have slightly higher projections be at the midpoint to the higher end of the range, but no rate cut sooner. We feel very good about getting there in a relatively benign environment, where you don’t have much of a shift in either direction.
But no doubt, what you would see happen if we do have one rate cut is similar to what happened this year, and we have $7.5 billion of assets that we’ll reprice immediately and then the – now the fundings is back and the deposit side will catch over some period of time.
So we don’t see a meaningfully different outlook from the perspective of the range. But the ability to get to the higher to midpoint to the higher end of that range, I think it’s easier with any no cut environment.
And just digging a little deeper on the NIM outlook, the originated yields in the fourth quarter were 4.28%. It looks like that’s about 20 bps below your core loan yield. Do you expect – what’s the new money yield today that’s layered in the year NIM forecast?
Yes. There is always – so it’s 4.25% to 4.50%. There’s always some volatility in that number based on whichever business line has a better quarter relative to another. So we feel pretty good. But over the course of – and we’re confident that in 2020, the new origination yield on average over the course of the year will be right at, so it will be in mind with the run-off of existing loan yields.
So we don’t see – again assuming the rate environment that we’re talking about, right, so one cut to no cuts, right? So there is – no, that we are very confident in that the pipeline is building at around those levels.
So around this four – it will vary but around this 4.30% level.
On average, correct. On average, it will be around that.
And just last one, just switching on the funding side which appears to be a lot of – like Slide 10, I think you guys outlined a number of drivers that that are help – are going to help you guys achieve that NIM stability this year. There is a number of them obviously, deposit beta accelerating, online, consumer CDs and borrowings. Is it possible for you guys to try to – which are the big components or it’s going to provide the most relief to funding costs in 2020, just given all the moving parts?
I think all of those components, Casey.
Yes. I think there is a – we’ve guided to this over the last couple of quarters. We are in the early stages of kind of funding stack repricing, so it’s assessing the deposit side. From a wholesale borrowings perspective, I think that there is – as we outlined there, the big step down did happen in the third and fourth quarter of this year, so you should see that component of the funding stack will continue to result in roughly somewhere approximately 5 basis points of repricing kind of quarter-over-quarter.
But on the deposit side, it’s across the board. CDs have started to reprice already in January. We’ve been guiding to that in the last quarter call, saying that we had – when you look at the progression of CD cost over the course – especially in the commercial and consumer commercial side, you’ll see on that slide that none of it as we really repriced at this point.
So if you were – I don’t know if there is a – what’s the lowest hanging fruit, we think that is probably the lowest hanging fruit because that is – those are again certain as to how those will – there is more certainty around those are going to reprice. But the broader opportunity here is across the board on consumer and commercial as well.
We’re still in the early stages of – as we said, these full relationships. We are going to protect those relationships, so we’ve been very mindful of not upsetting the applecart and kind of managing deposit rates the right way. But we’re still in the very early stages of that.
The deposit beta which on the way up was approximately 35% to 40% as we’ve talked about many times, on that consumer and commercial side is only 10%. So there is plenty of room there. And we will – again, we’re going to manage it smartly. We are very focused on retaining those relationships, but at the same time, we’re confident that there is room for substantial decreases as we continue to progress in 2020.
Great. Thank you.
Yes. The two areas that really are very distinct time on this thing is the CD side of this thing, we have a $1.2 billion coming due that will significantly reprice that are in a kind of nine to 12 month CD range, and then the muni deposits that as rates have come down, we work to retain the relationship we need balances and we work to reprice the transaction-oriented municipal balances.
We will now take our next question from Steve Moss from B. Riley FBR. Please go ahead.
Just following up on the margin here, just as we think about our first quarter margin, it seems like of the core margin here, you were 3.13%, but the 4 basis point impact from liquidity. And then I think, Jack, you said by the 10 basis point linked-quarter decline in funding costs, so probably looking at it and it sounds like probably a 3.20%-ish core margin to start the quarter. Is that fair?
So I’d say that it’s – so one thing that you have to factor in is that we do have witnessed, subordinated debt issuance is going to cost us a little bit in the first quarter. So we’re actively working on right now and evaluating various alternatives to take out the senior notes sooner than maturity.
So the first quarter is going – it’s going not going to be a 3.20%. We’ll be at the lower end of the range. But then as you essentially rightsize the fundings stack, you eliminate that 3.5% cost in senior notes and you continue to reprice the fundings back down, given the fact that we do anticipate and we have seen in the second half in the fourth quarter, asset yields kind of abating and from that perspective not decreasing any more, we feel pretty confident that we start the year at the lower end of that range and then we build up to it over the course of the year.
And then on loan growth here, just wondering – talk about organic loan growth through the deck, but organic loan growth this quarter pretty flattish to down a little bit. I’m just wondering what are the dynamics saw this quarter, and why we didn’t see more loan growth here?
Yes, good question. So I think we guided last quarter to about $1.2 billion of commercial loan growth, and in this, we realized about $800 million. There are a couple of factors that affected that. One, we don’t include there is about $100 million worth of lease – leased assets that we included in the other asset category.
We sold off about off $150 million worth of non-relationship loans in the quarter. Mortgage warehouse was down about $125 million because the turn people bought mortgage side of the warehouse faster, and then the balance was just some additional payoffs and pay down.
So we actually had a good quarter from organic loan growth basis in between $400 million and $500 million off of well over $1 billion of originations. So that’s why there is – because of the – some of these items have been a little bit extraordinary, it looks like there wasn’t organic loan growth, but there was fairly meaningful organic loan growth.
And then just as we think about acquisitions going forward, whether – what’s the appetite for portfolio purchases versus bank M&A here?
We’ve gone through this, our history dictates. We always are looking for portfolio acquisitions to change the asset mix and enhance the risk-adjusted returns on the revenue side. We acquire banks to find alternative funding sources. So we are constantly looking for opportunities to – and I went through in my comments, to reinvent the Company, and we will continue to do that.
We think in some cases, prices make sense and, in some cases, prices don’t make sense. Some – in many cases, the asset quality doesn’t make sense and, in some cases, the asset quality does make sense in the portfolio acquisitions. So we kind of constantly see opportunities to look at both portfolios and other banks, and frankly, other funding sources along the way.
We will now take our next question from Alex Twerdahl from Piper Sandler. Please go ahead.
I just wanted to understand on that last question on acquisitions. Just as I look at the loan growth targets for 2020, it says that it focuses on organic loan growth. So is the assumption that kind of the low end, at least to that is, should be pretty much in hands organically, and should an acquisition come along that kind of pushes you towards the top end of the range? Or acquisitions of loan portfolios just not contemplated at all on that – in that guidance?
Your first comment is true, it’s – this is an organic number, the way we presented this. So it would be – that would be the guidance on the net. Anything that we do over and above that will be over and above that guidance.
Okay. So that no acquisitions. And then similarly, the expense number of $420 million to $430 million, that’s – as you see it today, that doesn’t contemplate any sort of acquisitions as that number might have in the past?
And then just on the margin, you talked about the range of 3.15% to 3.25%, is that kind of a range for the full-year margin? Are you saying that each quarter should be somewhere in that 3.15% to 3.25% range, implying that we’re certainly going to see some – at least a little bit of margin expansion in the first quarter?
It’s the latter, yes.
So it’s essentially, that the range of where we see the quarterly NIM shaking out. So the full-year NIM – of the full-year NIM is not – unlikely to be at 3.25% because we’re not going to start the year at that level. We anticipate that there’s going to be a progression and expansion of that NIM, again with the big caveat regarding that we’re assuming, a relatively benign and stable rate environment, right? So that – we always like that kind of throughout that disclaimer. But which are – we are going to start – we’re going to start at the lower end of the range, and then we – again, as we continue to maintain asset yields and reprice the funding stack, we should start seeing some nice NIM expansion over the course of the year.
Right. So it sounds to me like you guys are calling the bottom on the NIM in the fourth quarter based on what you just said?
Yes. So again, remember that we have to – so especially, – a little bit of a driver of the NIM of some volatility short-term is going to be how successful we are in retiring some of the higher cost debt that we have out there with the senior notes. So we did issue $275 million sub-debt at a 4% rate so that obviously, it will have a short-term impact.
But then when you factor in that we’re going to essentially take out the senior notes, I think that you essentially get to a net-net neutral position from the perspective of the debt that’s the kind of the longer-term – longer duration that that’s on the books.
But yes, we feel very good and quite confident based on what we’ve seen in the second half of the fourth quarter that again asset yields have started to kind of – they have – they’ve leveled out, they’ve settled down and then we continue to see a very nice progression of repricing in the funding stack. So you’re right, we’re pretty – we’re not at the bottom and pretty darn close.
Perfect. That’s extremely helpful. And then just finally to clear up any confusion out there, the purchase accounting accretion guidance of $30 million to $35 million, that’s kind of right around where you’ve been targeting in the past for 2020. And can you give us any sort of color on where that might go in 2021? Is that going to basically trend towards zero for next year?
No. So in 2021, you’re still going to have another $15 million to $20 million or so. So you continue to see step-downs every year. But the tail of the accretion income is pretty long, so you’re going to see another step-down, or call it $10 million to $15 million, $10 million to $12 million on the accretion income side. But there’s still going to be some accretion flowing through in 2021.
We will now take our next question from Dave Bishop from D.A. Davidson. Please go ahead.
I appreciate the disclosure in terms of deposit breakdown. Just curious, the online bank initiative, how big of a piece of the puzzle from a funding source you think that grows to? And how should we think about that from an all-in cost? I guess some of that’s flowing through the marketing cost this quarter; any way to sort of benchmark what the all-in cost from that perspective is?
Sure. So we are – we’re spending approximately 25 basis points on the – of – incremental to the interest rate on building out the online channel. Now, I caveat that by saying that did say – I don’t know – I don’t want to say, it’s not a misleading number because it is right. It’s just the fact that there are obviously shared services that online bank also uses from the perspective of other infrastructure that we have built, right?
So – but when you think about the direct expenses there associated with originating that – kind of originating deposits through that channel, its interest rate cost approximately 25 basis points. That – that’s what it was in the second half of 2019. So again from an interest rate perspective, we realized and are cognizant of the fact that it’s – deposits are going to be higher cost and that they’re going to be more rate sensitive.
But in a low rate environment or generally benign rate environment, we feel very good that it is a very efficient way to generate funding. And it is a – a very efficient way to generate funding that allows us to continue to manage our efficiency ratio from the level worded today and potentially decreasing it further from there.
So we very much like the funding channel. And we’ve talked about this for some time that this was going to be a test and learn function and so far, the test and learn has worked out very much in line to exceeding expectations that we had originally thought.
So you will see in that page that – what are the key messages that we wanted to convey, the fact that there was pretty darn good growth from a spot balanced perspective between the end of the third quarter, in the fourth quarter, and yet you still saw that we were able to move down that cost of deposits by approximately 35 basis points from where we started. So we like the direction that business is headed.
From a perspective of how big it gets, time will tell. And it’s going to – again, it’s a test and learn function and we’re going to continue to tweak and dial pricing up and down, just based on whatever we see the need to be rough. Roughly, we anticipate that by the end of 2020, it should represent somewhere between 5% to 7% of the funding stack, so should be somewhere between, you think about $22 billion to $23 billion of deposits that we have that should be somewhere between $1 billion to $1.25 billion, so deposits is what we’re seeing.
And again, we are – this is – that’s what we think today we are going to dial that up and down based on how other deposit channels also grow. But so far, we very much like the types of relationships and accounts that are being driven through that channel and we very much like the – how the channel has responded from the perspective of the overall customer acquisition cost and the ability to – kind of move that pricing and dial that pricing up and down kind of almost an intermediate basis depending on what the funding needs are. So a very efficient channel.
And maybe some commentary in terms of maybe the core relationship-driven commercial real estate market, and maybe talk about the opportunities you should move into 2020 from a growth perspective?
Yes. We continue to look at the options out there, a variety of commercial real estate projects. It’s one of the great things about being around metropolitan New York is there are as many different variations of commercial real estate opportunities as anywhere in the country. So it may be a lot of people are obviously concerned around the rent-controlled multi-family projects.
There are very many other types of projects that we can get the risk-adjusted returns out of from a real estate standpoint that they are available to us in this market. So we think the path is very clear on opportunities on commercial real estate in this metropolitan area.
[Operator Instructions] We will now take our next question from Collyn Gilbert from KBW. Please go ahead.
Just wanted to dig in a little bit to the multi-family portfolio. It looks like if I’m looking at this correctly, you guys saw growth this quarter relative to third quarter, and it looks like the loan yields kind of hung in a little bit as well. So just wanted to understand sort of how you’re thinking about that portfolio? What was driving or what’s going to drive the growth? And then how the New York City rent-stabilized portion is – has been trending?
Yes. So – again, there are a lot of options on this. And what we’ve tended to do unlike other situations, we’ve tended to only focus on relationship-oriented multi-family deals, and frankly, relationship-oriented multi-family deals that do multiple projects.
So we – most of the multi-family clients that we originate from in our own direct origination basis do many, many – have many, many projects and do many different types of real estate investing. So we do not do the transaction part of it, the broker originated multi-family projects where the only thing you have is, is the transaction.
So we have a – so it’s a – in the big category multi-family, there is a lot of them are done through the brokers, but there are some out that are done on a direct basis with real estate developers and multi-family owners along the way.
So pricing has started to stabilize in that market and they are enhanced by other projects and other types of business you have from the client. So that’s why you’ve seen kind of the yields hang in there on that period of time. It also means that we’re running off some of the lower-yielding staff and adding some of the higher-yielding relationship-oriented multi-family deals
And then do you have the balance of what – I understand, that’s a good color, Jack, on the growth going forward, but what the balance currently is of the New York City multi-family kind of that broker originated portion?
You mean the ranking total or the total broker originated multi-family?
Yes. No, rent-controlled.
When you say, yes, you mean which one.
Sorry. Okay. New York City rent-controlled multi-family, what the balance – the outstanding balances of that book?
It’s about 600 – it’s about $750 million. And it’s subject to…
And has – okay. And has that changed – have those balances changed much in the last few quarters?
Some of them have paid off, so yes, we had – we’ve seen runoff in that book of approximately $100 million to $150 million over the second half of I guess, third and fourth quarters. And so far, we have not seen any major changes in performance in the book of business or any changes in trends and delinquencies.
So we don’t have a lot of it. We are closely monitoring it. And we anticipate that over some period of time, a lot of those loans begin – coming up for refinance and kind of renewals in the second half of 2020 and into 2021, and we’re going to actively work on figuring out what is the kind of best course of action for that portfolio going forward.
But right now, we can’t point to anything that we would say is a cause for concern.
Yes. These loans to tend to be older portfolio loans and they tend to be less than 50% loan to value. So that’s why, we’re not as concerned because of the rent-controlled aspect with the portfolio we have today, because of the general loan to value and there are more matured loans so that the repayments of the debt service coverages are very strong.
The vast majority of that portfolio if not all of it – I think probably all of it does, but the vast majority of it comes from the acquisition of Astoria, and dating all the way back to when we acquired Hudson Valley. So from an LTV and an underwriting perspective, that does not – we are not concerned about that portfolio.
And then just shifting to OpEx and efficiency, and Jack, again you guys are performance-oriented and operating leverage and all of that. But if we just look, so your OpEx, you’ve held at this $420 million kind of when we think about core OpEx since 2018. And is there going to be a point where that has to change or there is going to be investments that’s going to come down the pike? Just trying to sort of – it’s an impressive hold and I just wonder how long that can last?
Yes. I mean, our view is that can last for whatever. So 40% is what we believe is the right level for that. And we make investments. We are constantly making investments in people and technology along the way, but we are balancing that by taking costs out of other areas.
So we are constantly changing that mix. So our view is that that will continue to change or continue to be consistent at the 40%. Remember too, it’s a numerator or denominator issue. So the numerator’s revenue and the denominator’s expense, so just not an expense issue. It’s also the generation of revenue and creating that operating leverage along the way.
So I said this a couple of times and some people take this right way and some the wrong. But we actually have less people that produce higher revenue per FTE and earnings per FTE than pure significantly higher this frankly get paid more money. So we believe in that model and it creates the type of efficiencies that we want.
There are two big reasons why we are more efficient. One, we’re not in inefficient businesses like a mortgage or like asset management or like a big branch system. So that’s one reason we’re efficient. The second is the dynamic that I just mentioned. We have lower numbers of people that produce higher revenue and earnings per FTE than peers, and that frankly get paid more. So that dynamic kind of works to keep the efficiency ratio about where it is today.
I don’t think that – I don’t think it can get into the 35% or below range. So if that’s another – just a follow-on. I think there is a limit to how efficient you can be in financial services. But – and I think it is in that kind of 35% to 40% range with targeted 40% as an ongoing target on this thing,
And then just one last housekeeping item for you, Luis. On the accretion guide of that $30 million to $35 million, significantly less than what you guys posted obviously, this year. And just thinking about that trajectory there of how you see that going and just – is there – I mean if pay down slow then – I mean I’m stating the obvious, I guess, that accretion number could end up being higher? Just trying to sort of reconcile the patterns there because I think that came in higher than what you were originally anticipating for 2019 as well.
Yes. So the pay downs – so the reason for being higher than what we thought in ’19 was the fact that yes, a lot of the remaining mark on the Astoria book was driven by the residential mortgage book and so the mortgage pay-offs accelerated pretty substantially over the course of the year. So we’ve been running at call it $250 million to $300 million a year in ’18, and then in ’19, we had close to $650 million bucks of runoff, right?
So that’s certainly was one of the key drivers as to why that was higher than what we thought. And there’s always a little bit of a risk from that perspective that you’re going to have on providing accretion income guide, which is there is – it’s going to be based on overall performance of the book over some period of time.
What remains today is not so much on the residential mortgage side, but actually more so on the multi-family side. And on that portfolio, we have – without having a magic crystal ball, we do have a little bit more visibility because it is not as – it is rate sensitive too obviously from a perspective of repayments and so forth, but it is not as efficient a marketplace as residential mortgage is.
The minute that you start seeing five, seven and 10 one origination yields in the residential mortgage side that drop below 25 basis points where they were, you start seeing a substantial pickup in pay-offs and increases. The multi-family side and the CRE side of the house does not behave as efficiently as a residential mortgage.
So we feel pretty – we feel very good – pretty confident about the $30 million to $35 million. And don’t think about it from the perspective of it being a level over the course of the year because remember these are – it never happens level. There’s always higher tail. The tail gets lower as you go over the year.
So you’ll see that similar to what’s happened in the last couple of years where we started with about $27 million, $28 million of accretion income per quarter, and then that moves to $25 million, moves to $20 million. Third quarter was about $17 million. This quarter was $19 million because that’s in big pay-offs and some specific transactions.
But we start seeing – it’s going to follow the same type of pattern which is it’s going to be higher at the beginning of the year and then it’s going to fall off over the course of 2020. And then into 2021, we’ll follow the same type of pattern as well.
But we feel $35 million is pretty good number. But we feel pretty confident that based on the mix of business that remains that has the mark on it, it should – we should be pretty close to that number.
We will now take our next question from Steve Duong from RBC Capital Markets.
Just on the – just going back to expenses, in the quarter, other expense line, that was a little high. That was – I think it was higher marketing and retirement plans. Is that correct?
That is correct. So –
Out of the increase – the increase is about $3 million. About half of that was driven by marketing and about – 30% or 40% of that other half or the $1.5 million was net cost on pension and retirement benefits.
And how much of that do you expect to gravitate down maybe to $17 million level or at all possible?
Yes. That’s – you’re going to see a run rate that’s going to be a much closer to what third quarter was versus Q4. So those are – the advertising is always going to – marketing will always be a little bit of a volatile line item, depending on what we do from either promotional perspective or – to the discussion that we’re having before regarding.
And so if – yes.
I guess, so if that goes down a little bit, then do you think that you could possibly get your 2020 expense to below a $420 million line?
I think that anything is possible. Is it probable? No. I think that we have a pretty good handle on the investments that we want to make, from the perspective of hiring a credential banking teams and business development officers, and we’re building out a lot on the – especially on the deposit gathering channels on the commercial side with property management and legal services, and the innovation and finance team that we hired.
So we feel pretty good that our – we’ve held that expense line item relatively flat for the past three years if you factor in everything related to Astoria. And right now the dynamic that you’re going to see going forward is that now that we get to about 80 financial centers that are – that are going to be up by the end of 3/31, you’re not going to see the same rate and pace of financial center consolidations that you have seen in the past, which is one of the things that has resulted in us alone to kind of reduce and maintain that OpEx relatively flat.
We are much more concerned this year with again maintaining that roughly $420 million kind of low-end, but also kind of getting back to kind of really meaningfully growing the top line revenue side of the house. And again, that does require investment and we see the needs and we want to continue to invest particularly, on the deposit gathering side.
So we will be actively looking to hire folks and get back to getting kind of more robust and broader distribution channels on the deposit side, again. So is it going to be below $420 million? Unlikely, but we feel very good about that range, and we feel good about the – kind of the midpoint to lower end of that range.
And then just moving on to your loan portfolio, if we were just looking at the equipment finance portfolio ex-Santander, can you just give us some color what was going on in the quarter in that portfolio?
In which one, in equipment, in particular?
Yes. It’s been flat. It’s been relatively flat. The new origination yields that we’re seeing in that market for the type of business that we originate which are kind of higher credit – good and higher credit quality middle-market commercial borrowers have gotten extremely tight. So you’re not going to see organic growth in equipment finance.
We see better risk-adjusted returns and better credit spreads in other components of the portfolio, mainly diversified CRE, all of the projects that we’re doing on the affordable housing side, as well as public sector and some of the other more diverse commercial lines.
So equipment is – it’s over $2 billion today. We – the – what – the portfolio we acquired from Santander is exactly what we thought it was, and then in many respects, it’s actually a little bit better just given that we’ve had some nice fundings and we inherited some funding commitments from Santander there as well, which has actually worked out very well because we – we’ve actually been able to grow those relationships slightly over the course of the quarter since we closed it. But we are not – the focal point does not on growing equipment finance going forward because credit spreads have – are not really what we want them to be right now.
And is that similarly the same story on your ABL side?
Absolutely, 100%. And we think that that is – that’s a market, that’s a sector of the market that you’re not going to see growing organically because there is a broad universe of competitors, not just banks, but more so credit funds and alternative asset managers and insurance companies that have jumped into the, into the ABL game. And from a spread perspective and a pricing perspective, we don’t like what we’re seeing there.
But more so than on the pricing side, we’re starting to see some – we’ve seen creeping into that business a combination of some enterprise value lending that a lot of market participants are adding on to kind of what traditional ABL that we really don’t like. So you’re not going to see that business grow organic.
And then just moving on to your warehouse line, how much in commitments you have today relative to where you were a year ago?
So the portfolio has grown about 25% year-over-year from a commitments perspective. Facilities – well, the percentage of facility usage has always been approximately 55% to 65%, always in that range. You never want to be a warehouse lender where your – the loan lending relationship or where your relationship has been used to its fullest expect. They might be able to use it and you have the capability to use it for a short period of time to a high utilization rate.
But in the warehouse lending business, you really want to focus on client that have diversified sources and that are managing that utilization rate to somewhere call it on average about 60% but year-over-year commitments in the book – that the amount of committed facilities has increased about 25%.
Yes, did you guys still seeing that continue like somewhat continuing in 2020.
Yes, we, one of the good things about being slightly bigger bank than when we were before that you can obviously go and – provide financing to larger independent originators as well. So we – let’s say book that we realized and are cognizant of the fact that it had some volatility quarter-over-quarter which I know is not the most favorite thing that folks like to see. And so therefore we get – it is a mortgage business after all.
So there is some volatility to it but we have a very consistent track record over the last 5 years of growing that business very steadily. When we inherited that business in the Sterling merger in 2000 in late 2013 that business had about $200 million bucks in outstanding this quarter, we had 1.3 just under $1.3 billion in average outstanding that business has grown very nicely and it’s going to continue to do so.
Because the larger balance sheet size allows us to provide financing to larger independent originators which is again very scalable and very efficient. The growth in that book has been essentially on top of the same infrastructure that we inherited about five or six years ago. We like it a lot, but it’s never going to be a disproportionate size of our business because we understand that the volatility aspect of it’s not – it’s not an investor bank paper, we get that.
Understood, and just one last one from me your securities book you’re looking to get it down to 15% at the end of the year on earning assets, what can we expect as far like quarterly run off in the book?
So it’s more so, we want to get there in the perspective of growing the rest of the balance sheet mostly then running off any particular component of it. However, with that said we continue to see the trend that we have been saying for the past two quarters, given the rate environment that we’ve had. The book particularly the MBS book because the municipal securities book of about $2.5 billion really does not cash flow much on a monthly basis, which we like a lot, because we’re sitting on a substantial amount of unrealized gains there.
But the MBS book cancels at some of between $75 million to $100 million per quarter. So if you – but we did absolutely nothing. And we did not reinvest a single security in the course of the year you would have approximately somewhere between 300 million to 400 million bucks that have grown up in the book that’s not the intention.
The intention is to get to that target level by growing the rest of the balance sheet just maintaining the securities flat. So, we will be reinvesting, but if they – if we did nothing, you would have about $400 million loss.
We will now take our next question from Matthew Breese from Stephens Incorporation. Please go ahead.
Jack just focused on your comment in regards to late-stage credit couple of related questions. So, the first is as we wind-back the tape and we look at all the portfolio deals you’ve ever done. I was hoping for a little bit of review here. So where do balances stand in totality for the portfolio purchases where the balances stand today versus when you purchased them how they perform from a credit perspective versus your initial expectations. And if the remarks along the way on these books could you give us some idea of what the average mark was just for credit comfort?
It’s a long list Matt, that’s a really long list. I’m not sure we can – go through each portfolio we’ve acquired there, because then the eight portfolio of acquisitions over the period of time, but I would tell you that – for the most part. What we have tried to do – I’ll start from a macro standpoint. What we’ve tried to do is create a diversified mix of portfolios in the company and there are different types and times.
They are going to be more or less favorable relative to the risk-adjusted returns and frankly the growth rates in those portfolios. So, where we just had this conversation about equipment in ABL, one of the reasons we looked at the Santander portfolio we essentially bought a year’s worth of production at a really good yield at really good quality compared to what we would be able initially through the year on given the market dynamics of equipment.
So we were very opportunistic with the portfolio by buying it there we basically bought the whole year’s worth of volume that we would have expected on the equipment side. Luis mentioned ABL, the yield – the returns on ABL and the credit quality on the structure of the deals that things – people are doing in the market. Mostly non-banks have really diminished over the last several years.
So, we’ve tried to as we purchased portfolios. We’ve tried to look at which portfolios. We have an opportunity to continue to diversify with the right risk adjusted returns out there, some of them we buy and we frankly one down because it was a one-time buy most of them, we use as a platform to grow from and to expand. We believe again the most current example the Santander portfolio.
We believe that the relationships that were incumbent in that portfolio allow us to go back to those clients and expand the relationship, both on the equipment side and other banking services. So each portfolio has a different dynamic and a different need going forward. But at the end of the day we’re trying to take this mix – they are both organic acquired by banks and acquired portfolio to create the right risk adjusted return out there.
To give you some big picture stats on average the credit marks that we’ve taken on these portfolios. So the interest rate marks on these portfolios have been different just based on whatever the interest rate environment was at the time. So the interest rates are – for the interest rate perspective marks have been kind of all have replaced. From a credit perspective on average it’s been about 2.5% for all the portfolios that we – have acquired.
Each one of those portfolios, the existing book of business when we acquired it has performed very much in line or better than what we had originally thought. And so, one of the reasons for in 2019 for us having a higher accretion income level that we had originally anticipated is the fact that as some of these assets were lost as they performed better than what you thought they were going us particularly a purchase credit impaired loans.
Because they performed better than what you had originally marked then that and that’s always result in some volatility in the accretion income side because as something pays off you had to mark on it you didn’t lose that amount of money you thing you’re actually going to get to accrete that back in the income right. So that’s one of the reasons as to why – it has outperformed is the fact that the net accretion income has been higher than what we had originally thought.
Is the fact that a lot in the portfolio that we have acquired have actually performed in line or better than expectations. The one portfolio that has not moved in our favor was the – when the advantage transportation finance transaction that we did in March of 2018. The existing portfolio performed very much in line and slightly better than what we had originally anticipated, but when – if we go back to the earnings calls and we announced that transaction.
We had always guided to the fact that we were going to essentially tweak the origination engine that we inherited from advantage or we’re going to move it a little bit further upstream because there was either the component of credits that they – that advantage focused on that we did not like from a credit quality perspective. And what we have found over the course of the last 2 years in line with what we’re talking about the equipment side.
Is the fact that credit spreads in that industry to us don’t make sense and so today if you were to ask where did that portfolio stand that portfolio was actually about $110 million lower and we acquired it. So it was $457 million when we acquired it. Today we’re at just over $200 million or so in remaining outstanding balances that portfolio by design. We have essentially kind of stepped off the throttle because we don’t like what we see from the perspective of credit spreads and risk-adjusted returns in the business.
Other than that, the other business lines that we have and the other portfolios that we have acquired I think that the financial performance kind of speaks for itself. You have not seen big hiccups from credit perspective, you’ve seen kind of pretty steady progression of what we’ve guided to from a perspective of what those portfolio that are going to result in from an incoming an expense perspective.
So as we’ve talked about in the past the benefit of acquiring a portfolio in today’s M&A world is the fact that again, going back to the Santander, we’ve had 9 months that we were working on that transaction we had the opportunity to select assets that we wanted. We had the opportunity to essentially under – we are underwriting review every asset that we acquired. We feel very comfortable and that’s what we talked about in the past.
To us these portfolio acquisitions realizing – they are not organic originations from a risk perspective to us. They are because they go through the exact same level of very end of due diligence that we would do for any organic origination and we get the benefit of essentially marketing it upfront. So – that’s why we like it. I know that some folks consider an organic origination better than an acquisition like we can debate that as much as everybody wants.
We very much like the aspect and the ability of us being able to we underwrite the entirety of the portfolio and marking it upfront. We feel that’s a good way to continue to grow the business and to allocate capital and liquidity.
The other add I’d make on this is now depend upon what price you pay. So there is the dynamic that far you – want to make sure that the credit quality is exactly what you want it to be, you want to make sure that your ongoing business is what you think it’s going to be but then you get to the point where you’re buying it at a certain price and you’re marking it at a certain price.
So the net result of the answer to like the first – the initial question is every one of the portfolios is worked out from a return standpoint. We’ve got, there may be a different ways than we designed it but we – each of them have met or exceeded the targeted return in some cases because is performed better credit quality wise, in some cases, it’s because we bought it at a discounts or a price that made sense through a different cycle.
So we’re very comfortable with these things. And again, it’s all about – there is multiple factors that go into this thing,
No, it’s extremely helpful. And then maybe just tying this into what we saw from a special mention, and substandard loan progression standpoint. Were any of those the increase from acquired books or what categories were the end your workout expectations, and what timeframe do you think we should see those resolve.
Yes. So, the increase was driven by commercial real estate credit, and a couple of ABL credits. One of the ABL credits was an acquired credit, we feel very good about the different – the other two credits that we had talked about from an ABL perspective in ’19 that we have now fully got in behind us as Jack alluded to in his comments. And so there is – we are off our books and fully exited and every one of those situations the assets are and the loan relationships are performing and they are very well secured.
So we have a combination of good collateral. We have a combination of good marks on economies, and we feel good about being able to work out of these in a relatively short time frame. So in the next quarter or two, we feel, we feel pretty confident that we’re going to be able to exit these relationships. We’ll work out in a way that makes sense, and it should not have a big impact from a credit quality perspective or a charge-off perspective.
Can you talk a little bit about the Deloitte and Innovation Finance Group? Two recent announcements, I don’t think I have a good handle on what these are poised to do near-term, long-term. Could you just help me kind of understand what the impacts might be over the next year or 2 years from these two – is it partnership and the Innovation Finance Group?
Yes, so the Deloitte side of this thing, what we’ve been working with Deloitte for now probably 18 months or so. They have done a number of things for us, not the least of which was they provided us with the tools on the artificial intelligence side, as we’ve used AI we’ve used there kind of machines to put in place and a variety of different areas.
But Deloitte side of it is multiple areas. So one, a simple thing Deloitte over the years have built up a very, very large technology support mechanism. We do, we started a process with them where we do simple things like all the laptops and all the fulfillment of devices in the company now is fulfilled by them rather than frankly the fragmented way, we were doing it before. They provided us with the IT help desk. Again the metrics on their performance on IT help desk versus what we were using before are dramatically different.
Third is, they look at helping us put everything into the cloud. So we’re using their mechanisms that go into the cloud and then continued on that we’re using them to do projects like a – the voice-activated internally, voice activated kind of artificial intelligence that provides internal support and external support things like call centers.
So there are many, many different pieces where we’re using them. And frankly, we are already experiencing performance levels that are significantly more than what we were doing ourselves or we were outsourcing to other people, and essentially at the same cost if you bake in all the cost, because the other question will come up is this a lot more expensive. The answer in total is no, we are – we are basically moving costs from one area to another and the performance is much higher.
So unlike the big banks that can go on and they’re spending capital where they’re building all these things themselves, this is our answer to – or partially an answer to how we can be very contemporary in terms of providing the right levels of technology spends and actuation of our technology dollars.
So, that’s how the partnership works. And again, the final part of this we’ll continue to provide the blocks on our AI processes as we work to take all manual processes out of the company and automate them or outsource them going forward.
So another – a little bit of an answer to Collyn’s question about efficiency to we’re using technology to drive down – ultimately drive down the costs and create better efficiencies along the way.
The technology team that we have is a team that is focused on a very specific niche and it’s actually lending and deposit gathering to companies that have kind of residual types of earning stream. So this is not venture lending, and it’s not spec lending, it is lending against software companies that have a variety of cash flows coming in from the contracts they have.
So that’s a successful group that has worked for a couple of different very highly recognized businesses on the technology side, and they are already off to a really good start both on – again the lending side and also the deposit gathering side.
Just a follow-up there. Could you give us a sense for the team you hired the size of their book from their prior institution both on the loan and deposit side that they’re looking to recapture?
To be honest, I don’t know. And it’s – this is a three person team by the way, it’s not 30 or 40 people.
Understood, okay. Last one is just on the extent we might see share repurchases, Luis we should talk in regards to share repurchases, perhaps in terms of capital goals in regards to tangible common equity to tangible assets. Is the long-term goal is still to get to around 8% to 8.25% and should we think about share repurchases as they, as a tool to help you get there as an essentially a plug perhaps
The answer is yes to all of the above, but we generate a lot of capital and one of the reasons for us kind of moving a little bit away from that – providing that type of guidance is that similar that happened in 2019. So we had robust share repurchase activity, we generated sufficient capital that we don’t – we didn’t really do too much of that into the capital ratio.
So we anticipate that the balance sheet starts growing again this year relative 2019. Remember that we were not anticipating any major sales of assets like we had with the residential mortgages earlier in the year, which created a lot of excess capital on the balance sheet. So we think that the balance sheet gets back to growing and that’s the reason as to why we’re being a little bit more conservative on the kind of the outlook for buyback.
So it’s still going to be meaningful. We’re still going you to use it as a tool to get to that longer-term target. But that is a longer-term target. I don’t see a scenario barring some substantial growth opportunity either organic or on the acquisition front, I do not envision that we will get to 8.25% by the end of this year.
This is the end of our question-and-answer session. I would now like to turn the call over to our host.
Thanks a lot for following us through the year. Actually really want to thank our colleagues and our clients and our shareholders obviously, and investors. We hope you buy the stock. And in all seriousness, we are turning our attention from kind of repositioning the balance sheet here, a company that in an environment in 2018 where you add steady increases in rates. And then in 2019, just a reversal to the three decreases and it’s – it’s enabled us to reposition the balance sheet and turn our attention now in the 2020 on kind of getting back to creating that positive operating leverage where we’re growing revenues faster than expenses.
So we appreciate you all following us. And if you have any questions, give us a call. Thanks a lot. Have a great day.
This concludes today’s call. Thank you for your participation. You may now disconnect.