Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)

SVB Financial Group (NASDAQ:SIVB)

Q3 2008 Earnings Call Transcript

October 23, 2008, 5:00 pm ET

Executives

Meghan O'Leary – IR

Ken Wilcox – President and CEO

Mike Descheneaux – CFO

Dave Jones – Chief Credit Officer

Greg Becker – President, Silicon Valley Bank

Analysts

Joe Morford – RBC Capital Markets

Fred Cannon – KBW

Aaron Deer – Sandler O'Neill

John Pancari – JP Morgan

Andrea Jao – Barclays Capital

James Abbott – FBR

Erika Penala – Merrill Lynch

Operator

Good afternoon. My name is Anitha and I will be your conference operator today. At this time I would like to welcome everyone to the SVB Financial Group third quarter 2008 earnings call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks there will be a question-and-answer session. (Operator instructions).

I would now like to turn the call over to Ms. Meghan O'Leary. Ma'am, you may begin the conference.

Meghan O’Leary

Thank you. Today, Ken Wilcox, our President and CEO, and Mike Descheneaux, our Chief Financial Officer will discuss SVB's third quarter 2008 performance and financial results. Following this presentation, members of our management team will be available to take your questions.

I want to apologize for the delay in getting out the release. I know many of you were waiting for. We had a few problems with our wire service.

I would like to start the meeting by reading the Safe Harbor disclosure. This presentation contains forward-looking statements within the meaning of the Federal Securities laws including without limitation financial guidance for the full year 2008. Forward-looking statements are statements that are not historical facts. Such statements are just predictions, and actual events or results may differ materially.

The information about factors that could cause actual results to differ materially from those contained in our forward-looking statements is provided in our press release and our last filed Form 10-K and 10-Q. The forward-looking statements are made as of the date of broadcast, and the company undertakes no obligation to update such forward-looking statements. This presentation may also contain references to non-GAAP financial measures. A presentation of and reconciliation to the most directly comparable GAAP financial measures can be found in our press release.

Thank you. And now I'd like to turn the call over to Ken Wilcox.

Ken Wilcox

Good afternoon and thank you for joining us again today. I am pleased to be with you all to talk about another great quarter for SVB Financial Group. Despite significant deterioration in the financial services market and a deepening global economic crisis, SVB delivered another quarter of strong growth in a number of different categories.

Our EPS this quarter of $0.80 beats the Street's consensus estimate of $0.73 and that without the benefit of any one-time items. In a time of economic turbulence I want you to know I am incredibly proud of that number. The fundamentals of our business are strong and we believe are likely to remain so. On that, there are five points I would like to make.

No. 1, we have a strong capital base. As a result of our capital strategy and efforts earlier this year to ensure a strong capital position, we have total risk-based capital of 14.3% and a tangible common equity to tangible assets ratio of 9.2%.

No. 2, our credit quality remains strong. Thanks to our minimal exposure to the mortgage market and to our complete lack of exposure to subprime as well as our disciplined credit culture we have maintained good credit quality in line with our expectations at this point.

We recorded net charge-offs of $6.3 million in the quarter. Or in other words, 47 basis points on an annualized basis compared to 44 basis points on an annualized basis in the second quarter and 49 basis points on an annualized basis in the first quarter.

No. 3, we continue to grow our business in its core areas. Average loans grew by 12.6% in the third quarter and average deposits grew by 3.7%. With that, our loan to deposit ratio is currently running at about a 1-to-1 ratio. However, client funds in the broker-dealer are typically about 4 times to 5 times our loan balances. The goal for us which we think we can accomplish will be to entice a little bit more of those funds on to our balance sheet to the extent that it makes good sense for our clients.

No. 4, we are continuing to invest in our future. Our attention to markets outside the U.S. is beginning to pay-off. We have been lending actively in the UK market for over three, maybe four years now and to companies in Israel for almost a year. Earlier this year we were granted a license to lend in India, and we are now in a position to extend credit to Chinese companies as well. In these foreign markets we are focused on companies that are backed by U.S. VCs with whom we have worked closely now for years.

The infrastructure that we are investing in for SVB as a whole has the added advantage of being able to support our business activities abroad as well. Our growing ability to accommodate the varying currency needs of the venture capital community around the world is enabling us to become the depository of choice for venture capital funds around the world. It also adds to our ability to support U.S. based technology clients as they seek to do business in foreign markets. All this bodes well for future growth.

We continue to focus on performance improvement and are actively identifying those processes that can either be streamlined or outsourced to geographies where our partners can do them more efficiently and effectively. This has increased our capacity and backroom support for our U.S. based clients. It's improved consistency across the organization and it's freed up our client facing staff to spend more time in the market and focus on activities that add value to our clients and to their relationships with us.

No. 5, we continue to receive very positive feedback from our clients and from our prospects. I travel on an almost weekly basis to one of our 32 offices, and when I do, I meet every time in small group dinners with 8 to 10 of our clients in each geography. The feedback I receive at these events is almost overwhelmingly positive. And to the extent that they share constructive feedback on areas where we can improve, I take these back and we implement changes.

Now I would be less than straightforward with you if I didn't share a few of my concerns. No bank or for that matter any company can ultimately be totally immune to the effects of a prolonged economic downturn. Although we have not seen any meaningfully negative trends among our clients yet, if the economy continues to decline this could over time impact us as well.

Having said that, we are doing everything possible to ensure that we stay ahead of the curve by adding to our staff and proactively reaching out to both companies and VCs in anticipation of issues as opposed to in response to them.

There are a number of things out there to be concerned about. First, there have been relatively few exits these past several quarters. This shortage if it continues over the long-haul could ultimately spell lower valuations, lower returns, and ultimately less enthusiastic limited partners in the venture funds themselves.

Second, if the Fed continues to cut interest rates and we think it will that too could negatively affect our net interest margin over time.

Third, if our efforts to entice more of the deposits in our broker-dealer on to the balance sheet don't bear fruit, however, so far they have, but if they didn't we could be at some point in a position where we would have to grow our loan portfolio at a more moderate clip.

Having said that I still believe that the technology sector will even under any of those circumstances continue to outperform the market. And by implication we think we could as well.

We serve a dynamic sector of the global economy. The companies we bank continue to create products that replace those already in the market either because they address an existing need better than anything out there today or because they address a need that has never been addressed before. New ideas are still being invented at a rapid pace.

Just by way of example, I recently met with one of our early stage client companies in Southern California that has developed a new technology that allows vaccines to be produced quickly and delivered via an oral pill enabling easier global distribution and storage due to the elimination of cold storage and the elimination of the need to have the vaccine administered by a physician. If successful, the company in question projects their vaccines could save thousands of lives in hard to reach third world countries as well as change the way the world looks at diseases like bird flu, malaria, HPV and even AIDS. I tell you I hear stories like this about innovation on an almost daily basis from our clients.

Finally, I still believe we could do better than others because there continues to be an abundance of capital. As we speak today, there is over $40 billion of uninvested venture capital money already committed to funds here in the United States, not to mention the literally hundreds of billions of dollars of global capital in countries such as China, and the United Arab Emirates, just to mention a couple of examples. Capital looking for opportunity.

At SVB we will seize these opportunities and confront the economic challenges by remaining focused on our strategy, our core markets, and meeting the needs of our clients. By continuing to exercise the credit discipline that so far has helped us avoid the credit issues affecting most other banks, by sticking to our investment goals of capital preservation and sufficient liquidity; and by continuing to leverage our long experience with market cycles to maintain and build value for SVB shareholders. Please make no mistake. We are in this for the long run and over the long haul will continue to deliver value both for our clients and for our shareholders.

So before I turn it over to our CFO, Mike Descheneaux, I want to thank the men and women of SVB who never cease to work tirelessly for our clients and for our shareholders. I am proud to work with such a dedicated team. So, Mike?

Mike Descheneaux

Thank you, Ken, and thank you everyone for joining us today as we discuss our third quarter 2008 results. We delivered outstanding third quarter results with diluted earnings per share of $0.80 and net income of $27 million compared to $0.62 and $21.3 million in the second quarter.

Once again, our results were driven by continued strong business performance, including impressive loan growth, solid deposit growth, and healthy fee income in the third quarter. We are particularly proud to have delivered this performance despite the significant challenges facing our industry and the capital markets.

There are five areas I would like to highlight with respect to our third quarter results. First, we grew average loans in Q3 by $544 million or 12.6%. While notable in and of itself, this growth is all the more important because of its high quality. It came primarily from capital call loans to venture capital and private equity firms. We have had virtually no charge-offs in the 18 years we have been making these types of loans.

That leads me to the second area I want to highlight, credit quality, which remains stable, with net charge-offs at 47 basis points of total gross loans versus 44 basis points in the second quarter.

Third, we delivered solid deposit growth of $172 million or 3.7%. This is our fifth consecutive quarter of deposit growth and average deposits are up more than 20% for the same quarter a year ago.

Fourth, our net interest margin rose slightly to 5.73% in Q3. While net interest margin has declined 145 basis points since last year at this time and we expect further pressure as a result of recent and expected Fed rate cut it still remains well above industry averages.

The fifth and final area I want to highlight is capital management. Our capital ratios remain well above those of our peers. We have been and continue to remain vigilant in assessing our capital needs and taking the necessary steps to support our continued growth.

Now I would like to discuss some details regarding our Q3 performance. Let's start with loans. Loan growth remained strong in Q3, reflecting activity across all client sectors with particularly good growth in capital call lines of credit to venture capital and private equity firms. We grew average loans from $4.3 billion in Q2 to $4.9 billion in Q3. Period-end loan balances were $5.3 billion which suggests that we are starting Q4 on a positive note.

It is important to note that much of the growth came from new loans to existing clients, rather than drawdowns of existing lines. In addition, the drawdowns that we did experience on existing credit lines were slated for investments.

As I said in my introductory comments, the bulk of our loan growth came from venture capital call lines of credit to VC and private equity firms. These loans are used by VC and private equity funds to improve their internal rate of return and create operational efficiencies by bridging the gap between the time they make a capital call and the time they actually receive funds from the LPs. Given the short duration of these loans, typically 30 days, we see this as a sign that our clients are continuing to invest in companies.

As for the credit quality of these loans, we have lent billions of dollars to VCs and PE firms for this purpose in the last 18 years and our cumulative net loss experience for those 18 years has been less than $10,000.

Let's shift our focus to credit quality. Overall, our credit quality has remained strong with net loan charge-offs of $6.3 million or 47 basis points of total gross loans compare to $5.1 million or 44 basis points in the second quarter. Gross charge-off declined in the third quarter to $7 million from $9.1 million in the second quarter. While these levels are higher than in the same period last year, they are well within our expectations and our comfort zone.

As a result of our very strong loan growth in the third quarter, we increased our total provision by $5.3 million to $13.7 million or 102 basis points of loans compared to $8.4 million or 72 basis points in the second quarter.

To-date we have not seen any trends of negative performance among our clients. In fact, as a group, they are growing revenues, although more modestly than they might like. While that is the situation today, realistically, we are aware that it could change. We are closely monitoring our clients’ performance and will manage appropriately should we see any early signs of deterioration.

Next up is deposits. Our efforts continued to pay-off with respect to deposits. We grew average deposits by $172 million in the third quarter to $4.82 billion, compared to $4.65 billion in the second quarter and $3.94 billion for the same period a year ago. This increase shows the continued success of our new interest-bearing deposit products, which in Q3 averaged $950 million compared to $748 million in the second quarter.

Step back a bit. In the last 18 months we have worked hard to grow deposits in order to fund our historically strong loan pipeline. As part of this effort we have refined our overall client funds philosophy and have been adjusting our strategy for both on and off balance sheet funds that meet our clients' risk profiles and needs while supporting our growth.

Now I would like to move on to the net interest income and net interest margin. Net interest income increased by $7.2 million in the third quarter to $95.1 million owing to our strong loan growth which allowed us to partially offset the impact of significant interest rate cuts in 2008.

Our net interest margin rose slightly to 5.73% versus 5.69% in the second quarter. This increase was driven by strong loan growth; a decrease in interest expense from the interest rate swaps associated with our senior and subordinated notes, which are tied to LIBOR and our continued success at growing deposits.

Despite this minor uptick, recent and anticipated Fed rate cut will continue to affect our NIM as well any decision not to lower our deposit rates in sync with these cuts. In addition, with LIBOR at elevated levels, we may be negatively affected by the reset of swap rates on our senior and subordinated debt which is scheduled to occur in December.

With these variables in mind we have adjusted our interest rate sensitivity for the remainder of the year to provide a likely range of impact which we will discuss in our outlook.

Moving on to capital management, our ratio of tangible common equity to tangible assets decreased to 9.2% in the third quarter from 9.47% in the second quarter largely due to strong loan growth. As I said earlier, our capital ratios remain well above those of our peers.

Nevertheless, we are constantly assessing those levels against our future needs and evaluating potential sources of capital, including the Treasury's TARP program. We believe there may be an opportunity for well-capitalized banks like us to take strategic advantage of the capital purchase program.

Moving on to income for the rest of our operations, non-interest income, specifically, non-interest income was lower in the third quarter at $41.7 million primarily due to modest valuation losses on our funds securities portfolio and sales of equity shares obtained through warrant exercises. Despite these losses, fee income remained solid.

Outside of gains and losses on investment securities and derivatives and corporate finance fees and so-called other income, our fee income in the first nine months of 2008 grew $18 million or 24% over the first nine months of 2007.

Foreign exchange fees rose by 9% or $700,000 in the third quarter to $8.6 million. Our success in raising client awareness of this product through our marketing efforts has been a key driver of the increases we have seen in the last few quarters and recent market volatility has also helped us. Our foreign exchange fees in the first nine months of 2008 have grown $6.7 million or 38% over the first nine months of 2007.

Average client investment balances, also known as off balance sheet funds grew by $647 million to $22 billion in the third quarter owing to new client activity. However, lower margins on repurchase agreements held client investment fees flat in the third quarter at $13.6 million.

We continue to face headwinds in growing off balance sheet funds due to an absence of IPOs. In addition, the success of our new on balance sheet deposit product has impacted off balance sheet fund somewhat.

Our investment funds management business and our warrant portfolio continue to be affected by more discerning VC funding environment and a higher bar for valuation increases. M&A activity among our portfolio of companies softened further in the third quarter, and IPO activity has all but stopped. These conditions are reflected in the net loss on investment securities we recognized in the third quarter related to lower valuations in our managed funds of funds and sponsored debt funds, and losses on the sale of marketable equity securities.

We realized gains on warrant exercises of $1.4 million compared to gains of $2.1 million in Q2 and gains of $9.2 million in Q3 of '07. These lower gains reflect the impact of a slowing M&A market and a nonexistent IPO market. Owing to our outstanding loan growth in the third quarter we obtained an exceptionally high number of new warrants, 145 compared to an average of 105 in each of the previous five quarters.

I would like to turn to non-interest expense now. We are pleased with our efforts to limit expense growth. Non-interest expense fell $6.8 million or 7.8% in the third quarter primarily due to two factors.

The first, as you may recall is that in the second quarter we recorded a $3.9 million charge related to early conversion of our zero coupon convertible debt. We had no such charges in the third quarter.

A second contributing factor was a reduction of the provision for unfunded credit commitment of $1 million compared to a provision of $800,000 in the second quarter.

Now I would like to review our outlook for 2008. Our outlook reflects our expectations for the full year 2008 versus the full year 2007. Although we revisit and update our outlook each quarter it is an annual outlook. We have five changes to our outlook.

First, we raised our outlook for average loan balances. We expect average loan balances to increase at a percentage rate in the mid-30s due to continued strong loan growth and a strong pipeline. This is up from the high 20s.

Second, we also raised our outlook for average deposit balances. We are now expecting those balances to increase at a percentage rate in the low 20s. This is up from the high teens.

Third, we increased our outlook for aggregate fees on deposit services, letters of credit, and foreign exchange. We expect these to increase at a percentage rate in the low 30s.

Fourth, we have improved our outlook for non-interest expense growth. We expect non-interest expense, excluding expenses related to minority interest, losses on our Coco, and goodwill impairment, to increase at a percentage rate in the low single-digit range.

Fifth and finally, we have adjusted our net interest margin outlook. We expect net interest margin for 2008 to range from 5.6% to 5.8%. The rest of the outlook remains the same as noted in our press release.

Before moving to the question-and-answer session, I would like to note that we have continued to perform in spite of the many challenges facing our industry and the capital markets. Our fundamental business is strong, and we have proven quarter after quarter that we are able to execute on our strategy.

We are delivering high-quality growth. Through focus and good management we have avoided numerous disasters that have seriously damaged many financial institutions and the capital markets in the past year. We plan to stick with our winning approach.

While we are positive about the near-term, we expect it to be challenging. If interest rates remain low or fall further, it will cause our net interest margin to further decline. If valuation pressures and a lack of exit opportunities persist it will challenge our clients and suppress returns from warrants and our investment funds management business.

If we are to enjoy continued loan growth, we have no choice, but to support that with strong deposit growth. But in our eyes, these are short-term challenges, and as Ken pointed out, we are planning for our future while we work to navigate the current market environment successfully.

We are thinking about and planning for our growth beyond this market cycle. We are improving the way we do things now in order to be more effective and efficient in the future. We are investing in our ability to grow internationally so that we can help our clients all over the world succeed just as we have helped them out in the United States.

Our employees drive these efforts and are responsible for our success. Their unwavering attention to growth while maintaining our focus on client service, credit quality, and expenses, allows us to continue delivering value for shareholders despite the challenges of the current economy.

This concludes our review of our third quarter 2008 results. With that I would like to ask the operator to open the call for questions. Thank you.

Question-and-Answer Session

Operator

(Operator instructions) The first question comes from the line of Joe Morford of RBC Capital Markets. Sir, your line is open.

Joe Morford – RBC Capital Markets

Thanks. Good afternoon, everyone. I know you kind of addressed this and little touched on it here and there, but maybe if Dave Jones is on the line he could answer as well. It just seems that we can't pick up a newspaper today without reading more about the challenges and struggles facing companies in the Valley and the tech world. You have seen a little bit slower pace in the fund raising. You talked about the exit opportunities kind of drying up and generally we are hearing just companies unlikely – getting told by their VCs that they are unlikely to get follow-on funding and stuff and the economy is slowing I just wonder if you could talk a bit more about how you see this all playing out from a credit perspective, recognizing you're not really seeing problems yet but looking forward how this environment may stress the loan portfolio.

Dave Jones

Okay, Joe. This is Dave and I will start, but I am sure that I can count on my partners to contribute. So, first off, I think it's important to note that this economic decline is not a tech-centric economic decline as we experienced just a few years ago. So my sense of it is that while our clients will be impacted and our loan losses will increase from – call it the mid-40 basis point range that we are today, my sense is that the stress that we will experience in the portfolio will not be what it was in 2001, 2002. I think that for the fact that there is no shortage of capital as Ken said. There is the $40 billion, there is the information indicating that fund raising by venture capitalists in the third quarter exceeded the investment in the third quarter. The numbers I have seen for the third quarter would indicate that the amount funded by venture into portfolio of companies was on par with the first couple of quarters this year. Now through three quarters this year we are – call it approximately flat with where we were in 2007.

I also point to the fact that unlike the tech crash experienced earlier this decade, our client companies are a very different profile than they were then. You will remember as well as I that the companies were dot com that the companies were what I might consider almost virtual companies without tangible product either software or hardware. And the companies today on average are older but they are producing a tangible software or hardware product and are generating revenues. So while management teams may be compelled to restrict spending, either on personnel or other overhead cost there will be the ability of management with the kind of companies that exist today to adjust the spending and get to breakeven or near breakeven level unlike what was possible in the tech crash. And Greg, would you add anything to that?

Greg Becker

Yes, I think just to follow on I think the business models are a lot more sound to Dave's point than they were back in that time period where you had software companies with huge burn rates that was doing perpetual licenses that were $1 million or $2 million license sales. You just don't have those type of companies in the portfolio anymore. The other part is that when you look at the highest risk of our portfolio relative to the venture capital model dependency we talked about this before where it's only roughly 10% of our loan portfolio today versus back in 2001 where it was 28% or 30% of the loan portfolio. And that's where we have historically had the largest number of loan losses. And this is just a small percentage of the portfolio. So that combined with what Dave said I think makes this even though we've said it will be more difficult not nearly as difficult as it was the last time around.

Joe Morford – RBC Capital Markets

Right. Okay, that's really helpful. I guess one follow-up. It sounds like then you are pretty comfortable with this growth. But as Mike talked about, should demand be stronger we have no choice, but to grow deposits in lock step or whatever. Just wonder what about the alternative just given the slowing outlook? It's tightening up underwriting standards and focusing on lower risk or higher margin deals. How do you weigh that kind of trade-off?

Dave Jones

This is Dave. Let me also offer to start that. If we do not experience the deposit growth that we expect then we will be compelled to moderate our growth and clearly, there is no shortage of demand for loans. So when demand greatly exceeds capacity then we will be managing for increased quality in what we do book.

Greg Becker

Yes, I would agree with that, Joe. This is Greg. Clearly, to Dave's first point we fully expect on the deposit side that the strategies that we have been working on, have been in place, that have been effective, will continue to be effective, and we are continuing to expand on them. In this environment from a lending perspective clearly the loan growth that we experienced in the third quarter, although we feel very good about it from a quality perspective, obviously, we don't expect that level of loan growth to continue into future quarters or into 2009. So the combination of all those things we feel we can absolutely balance and continue to remain good credit quality.

Ken Wilcox

And Joe, let me weigh in here too. This is Ken. I would just add to that, and this is more of a summary comment than actually a different comment. But our approach at this point is to ensure that every loan that we add to the portfolio increases the average quality of the portfolio. And I would submit that that is totally possible in today's environment. That's exactly what you would want us to do.

Joe Morford – RBC Capital Markets

Yes. Thanks so much.

Operator

Next question comes from the line of Fred Cannon. Sir, your line is open.

Fred Cannon – KBW

Thanks and congratulations on a solid quarter in a difficult environment.

Ken Wilcox

Thank you, Fred.

Fred Cannon – KBW

In terms of the loan growth, I was wondering if – you talked a lot about the new opportunities. I was wondering if you are also seeing some sign of a slowdown in pay-off as a result of the lack of exit strategies for some of your clients, and also the demand for by many of the clients to get liquid in this environment.

Dave Jones

Fred, this is Dave. We are, but mindful of the fact that most of the mergers and acquisition activity affecting our clients would be at the smaller loan level, the earlier stage companies. So if we were to experience a high level of M&A activity it really wouldn't make much of a rounding difference in terms of what we were experiencing in portfolio growth.

Fred Cannon – KBW

What about Dave, what about the issue of the larger clients wanting to get liquid? Seen a lot of clients globally in the corporate side just borrowing really to stay liquid rather than for expansion. Have you seen any sign of that?

Dave Jones

Again, this is Dave. The answer to that is no, not really. We have – Fred, I compare this again with what we saw during the tech-centric crash. And a lot of times we would see clients that would borrow millions if not in a couple of cases tens of millions of dollars and just park the cash on their balance sheet, sometimes to leave it there 90 days at a time. And I haven't really seen any of that. If it is happening, I would have to say that it's happening at the lower seven figure level and it's hard for me at that level to discern what is cash build and what is cash used for operations.

Fred Cannon – KBW

Great. And one for Greg, this is my last one. In terms of trying to get more of the deposits on balance, do you see any of the recent government programs such as guaranteeing the interest-bearing or – and some of the other programs help or hindrance to those efforts?

Greg Becker

Fred, this is Greg. So I do believe it's helpful. There is a couple of things. One is the FDIC guarantee on DDA balances helps and improving the $250,000 FDIC insurance on kind of top of that. That's one part. The second part I would say is less related to that, but it's corollary – I mean from our standpoint the bank is in such good financial condition from a capital base, credit quality, everything else, that the combination of the FDIC insurance and that strong credit quality puts us in a good position to attract deposits from a safety perspective. We feel that it has helped and will continue to help. I think all of us would agree that the government is very intent on making sure things like that, programs like that, I think continue for as long as they need to.

Fred Cannon – KBW

Okay. Thanks.

Operator

Your next question comes from the line of Aaron Deer of Sandler O'Neill. Your line is open.

Aaron Deer – Sandler O’Neill

Hi, good afternoon, everyone.

Dave Jones

Hi, Aaron.

Aaron Deer – Sandler O’Neill

I guess I am going to go back to the loan question. Obviously, as you said, the loan growth this quarter was very impressive. And you are now up I think 40% year-over-year in the loan book. And if I am correct, it seems like a lot of the growth in the past several quarters has come from the VC and the private equity funds. And I guess it's just surprising given that these are shorter-term loans that you're continuing to see that kind of growth and I would expect there would be more paydowns that sort of thing that would maybe inhibit some of that growth. Can you just talk about what exactly – maybe just give a little more color on these loans and the size of the loans and why we are seeing such so many of them.

Dave Jones

This is Dave. In terms of the term these are short-term loans, loans with maturities less than a year and usage on the facility is measured really in a matter of just a few weeks at a time. So what we are experiencing in terms of growth there is the addition of new funds for existing firms so if a firm adds a second fund, we could be lending to the first fund and the second fund at the same time. So we have seen firms continue to raise money, raise new funds, so opportunity there. And we have done a great job with our strategy in the last couple of years to grow our client base. So a combination of the two things. In terms of size we could be talking about anywhere from the high seven figure usage to something in the mid maybe eight figures at the high-end. I think important also to note that when we see the kind of loan volume and the venture capital, capital call facilities like we saw third quarter, it's indicative of good things going on in our environment. So for the venture capital to be drawing on the facility means that they have made an investment or made multiple investments in technology, life science company, obviously constructive for us. It also would mean that to the extent that we are lending to private equity firms. They have made an acquisition. So something that would fit in the M&A world. So good strong utilization in that portfolio, besides the fact that it is good credit quality, means that there is the flow of cash necessary to support and grow our environment.

Ken Wilcox

Aaron, this is Ken. I would like to add something to what Dave said. I want to underscore one of the points that he made, because I don't feel that he give it as much emphasis as it potentially deserves. And that is that we have pretty significantly increased our market share in these past couple of years, year and a half, two years maybe, in the area of providing banking services to venture capital funds. And that increase in market share accounts for the bulk of what you are seeing in terms of a growth in loan balances. And part of it is that we have really focused pretty intently on that area, and part of it is that it is an area in which success tends to lead to further success, simply because the funds area is a pretty incestuous one, where everybody knows everybody else. They are all involved in the same kinds of deals. And if you are doing a good job for a fund word spreads pretty quickly. I think that the people that are playing the role of CFO at most of these bigger funds all know each other. They get together and swap stories about service providers. And it's not long before you are getting referred from one fund to another. So I think that's worked pretty well for us, and that's reflected itself in the loan balances that you've been seeing.

Aaron Deer – Sandler O’Neill

That's helpful. And then just a follow-up. I guess I was surprised to hear you talk about potentially using the Treasury capital program, just given that your capital levels do seem to be pretty robust and that – I don't know I guess in my mind there is no obvious acquisition candidates. You talked about maybe strategic opportunities, what might those be?

Mike Descheneaux

Aaron, this is Mike Descheneaux. The way we look at that is the bank has been becoming a net consumer of capital. There has been a tremendous amount of opportunities that we are seeing just in the growth. We have talked about before about other expansions. We were talking about international, our global expansion, and there is a host of other things that keep coming up. So when you look at the capital purchase program under the Treasury, you look at the cost of capital, and it's extremely attractive capital when you look at that. And in particular I'd just maybe perhaps top it off with the fact that in this environment, as you know, having that fortress balance sheet or continuing to build on a fortress balance sheet is extremely important in maintaining investor and depositor confidence. So that in a sense how we look at that. I don't know if you, Ken or Greg, have anything else to add on that.

Greg Becker

No, I think it's exactly correct.

Aaron Deer – Sandler O’Neill

So basically you're just looking at it to support further balance sheet growth.

Mike Descheneaux

Yes.

Aaron Deer – Sandler O’Neill

Okay. Thank you.

Mike Descheneaux

Thanks, Aaron.

Operator

The next question comes from the line of John Pancari of JP Morgan. Sir, your line is open.

John Pancari – JP Morgan

Good evening. Can you just comment a little bit on your opportunity to pick up some share from some of your larger competitors? I know just given all the disruption we've seen at the broker dealers, I know they have been involved in parts of your business and I just want to see if you can comment on your opportunities to pick up some business from some of your larger players going through some problems right now.

Greg Becker

Yes, John. This is Greg Becker. I believe – we believe there are opportunities to pick up share. And I would say there is two reasons behind it. One is, as you described, just the changes in the market and competitor landscape. And that's literally the across not just on the asset management side, but it's across all the competitive areas that we have. So that is true. The other, what also helps accelerate that, at least believe from an opportunity is that our asset management team is both SVB Asset Management and SVB Securities. I would say over the last 18 months, 12 month, 6 month especially has just done an excellent job of guiding our clients through this storm of problems in the financial markets and been very communicative with our clients given them lots of information. They've gotten lots of accolades. And much like Ken described that positive feedback and news kind of feeds upon itself we also believe that will happen. And I think it takes a little bit for the dust to settle here, but obviously, we believe that will be an opportunity over the coming months and quarters, based on the dislocation you talked about and how well our teams have done to navigating our clients through this.

Ken Wilcox

I would just add to that that we – it's our perception at this point in the cycle that some of our competitors have been somewhat weakened by the experiences of the past several months, in some cases on the credit quality side, and in some cases on the funding side. So we have seen instances and I would say a growing number in the past couple of months where people have – investors have called us up and asked us if we would go visit with a portfolio company because a deal that we may have lost because our pricing was modestly higher or our structure was modestly tighter is being directed back toward us, because a competitor who had gone in initially with a bigger facility or a looser facility or a cheaper facility is having to withdraw their term sheet. I would say that that's more than anecdotal. That's reached the point now where we could actually call it a trend.

John Pancari – JP Morgan

Okay, that's very helpful. Then one last question. You may have alluded to it a little bit before I apologize if I missed it. But in terms of the expected impact of the disruption or expected disruption we could see at some private equity shops that have enduring some problems obviously or likely to see some continued problems, can you comment on that and how that could impact your business? If you have direct exposure to some of these private equity firms that could have some problems given their investments in this market.

Greg Becker

Yes, John, this is Greg Becker again. I would say – so when you say private equity, sometimes people describe it as the venture capital and private equity together. So I'll kind of just briefly talk about both. On the venture capital side we feel again very good about this. And looking at who the limited partners are, looking at the teams in the firms themselves and we have also been through this before. This market wasn't led – this downturn wasn't led by technology, unlike it was back in '01, and we did not see any issues with our capital call lines of credit back at that point in time. The same thing we believe is true in the private equity space. And as we have entered that market we have been very disciplined about going after the absolute best private equity firms. And we believe that they won't be impacted from the standpoint of the firms themselves having problems, going away, those type of things. So we feel very good about the impact on the credit quality of capital call facilities to both the venture and the private equity firms.

John Pancari – JP Morgan

Okay, thank you.

Greg Becker

Thanks, John.

Operator

Our next question comes from the line of Andrea Jao of Barclays Capital. Ma'am, your line is open.

Andrea Jao – Barclays Capital

Good afternoon, everyone.

Dave Jones

Good afternoon.

Greg Becker

Hi, Andrea.

Andrea Jao – Barclays Capital

I was hoping to ask – start with a straightforward question for Mike. Could you share with us your outlook on the interest rate environment and the Fed funds target? That remind us given that your balance sheet has changed a lot, remind us about the sensitivity of your margin to, let's say, a 25 basis point change to Fed funds target.

Mike Descheneaux

Yes, Andrea, that is happening quite rapidly and changing quite rapidly right now. What we did try to do this quarter, as you may have noticed, we put the guidance for the full year, trying to give you a little bit more insight into the net interest margin for the full year. That is essentially based on the recent 50 basis point cut we had plus the view that they are going to have another 25 basis point cut here in October and then one in December. So we've basically put that through our system and to try to help you out come out with this range. As far as that rule of thumb, that is subject to a few different things. Whether or not we fully – let's say decrease our deposit rates in sync with those expected moves or not, those things are still to be determined. But you will be able to get that adjusted rule of thumb when we come out with our 10-Q, when we have that sensitivity table. But again, hopefully in the meantime, this new range which is one of the first times we have done that will help you out.

Andrea Jao – Barclays Capital

Okay. No, this does help. My next question actually reveals my ignorance regarding derivative gains. During your prepared remarks you mention the valuation pressures and lack of exit events should pressure warrant income and your investment funds. I was wondering if you actually could put some magnitude or some numbers to that, given your outlook on the environment.

Mike Descheneaux

Yes, that's extremely challenging, no doubt, and so for obvious reasons, we don't really put any outlook. Again, a lot of it dictated by the markets out there. So it's just too lumpy and too unclear for us to really comment on that at this time.

Andrea Jao – Barclays Capital

Understood. Thank you so much.

Mike Descheneaux

Thank you.

Operator

The next question comes from the line of James Abbott of FBR. Sir, your line is open.

James Abbott – FBR

Yes, hi, good evening.

Mike Descheneaux

Hi, James.

James Abbott – FBR

Quick question on – maybe I have had several questions from other clients and stuff like that recently. But just if you can give us a reminder of kind of what peak losses were for you for the various different types of loans; and then kind of what they are running at right now. I know that most of the net charge-offs came this quarter from the early stage loans. So if you can put that in perspective, what those charge-offs are running today versus maybe in the good times. I understand that it's rest in piece for the good times, but maybe if you could put some perspective on that.

Dave Jones

This is Dave, and James, the majority of the loan losses that we have experienced in our portfolio have been of the early stage as we have talked about frequently. So in the tech crash – and I emphasize that for the fact that obviously, our client base were in the epicenter of that decline. The portfolio, the early stage portfolio experienced losses peaking as high as 600 basis points for that, 30% of the portfolio that Greg referenced earlier. Today, what we are experiencing would be loan losses on that book of business that are in the approximately 300 basis point level and that is now only 10% of the portfolio. So doing the math in my head the 300 basis points on 10% of our portfolio would represent roughly two-thirds or – and if I were to actually go to the specific numbers it would be probably a little bit higher than that, but not very much higher than that. Other segments of the portfolio which obviously dominate the loan book would have very small loan percentages. So I don't have that exact information, but I think that when you look at loan losses at 47 basis points you can tie it back to 30 or more of those basis points from the early-stage, then you must have extremely low loan losses on the other 90% of the book.

James Abbott – FBR

And is that – would you classify that kind of as one of the better run rates or does it normally run at maybe 100 basis points or 150 basis points? What's kind of a good times run rate on that early stage?

Dave Jones

The average for the early-stage, average over the last 7.5 or so years has been in the 250 basis point level. So obviously by average then half of the experiences have been better than that. So again I don't have specifics that would run out quarter-by-quarter, but I think that good times it would be likely that you are losing 150 basis points or some such number.

James Abbott – FBR

Okay. And then of the larger, can you maybe give us a sense of the larger loans that are in the portfolio? Some of the larger ones, what's the EBITDA coverage ratios or how whatever key metrics we should be thinking about as we go forward?

Dave Jones

Right. I could talk about the EBITDA coverage ratios on a couple of the loans. I don't want to do that, because there just is no value in anybody being able to look through that and see who our clients might really be. And we only do cash flow in the extreme situations. We have fewer than two dozen cash flow loans in the portfolio. So the measure to look at given that we are balance sheet lenders would really speak to the amount of cash and the amount of eligible accounts receivable in our portfolio. And our borrowing base would restrict the amount of debt to an amount equal to or less than that eligible borrowing base.

James Abbott – FBR

Okay. Thank you very much.

Mike Descheneaux

Thanks, James.

Operator

Our final question of the session comes from the line of Erika Penala of Merrill Lynch. Ma'am your line is open.

Erika Penala – Merrill Lynch

Good afternoon.

Greg Becker

Hello, Erika

Erika Penala – Merrill Lynch

I had a quick question on the back of Andrea's inquiry on the margin. I guess the rule of thumb has always been that for every, say, point decline in Fed funds you would pass along maybe half. I guess I was wondering what would cause you to – is the reason why you provided such a wide range is because you are also factoring in October and December cut? Because if we apply that rule of thumb to the fourth quarter you would be about hitting the high end of your range. I was wondering what the other factors were that would either exaggerate your asset sensitivity in the fourth quarter or what other factors are there that I am missing?

Mike Descheneaux

You hit the primary ones. But our bank is a little bit unique than most other banks, where we have a lot of factors that go into that. We have probably higher values of loan fees that go into there, so you have the uncertainty of that. Sometimes does vary from quarter-to-quarter. Whether or not we pass on the full amount of the interest rate cuts on to our deposit products is another factor as well to consider that we have not come to a conclusion. Certainly, we face that when we hit that time period when they do come with cuts. Again, there is just a lot more variables when we look at our net interest margin compared to most banks. So that's why we had a little bit broader range.

Erika Penala – Merrill Lynch

That's it. Thank you.

Mike Descheneaux

Thanks, Erika.

Meghan O’Leary

Alright, if there are no more questions then thank you all for attending our conference call. Good bye.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

This Transcript
All Transcripts