EverBank Financial's CEO Discusses Q3 2013 Results - Earnings Call Transcript

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 |  About: EverBank Financial (EVER)
by: SA Transcripts

EverBank Financial Corporation (NYSE:EVER)

Q3 2013 Earnings Call

October 31, 2013 9:00 AM ET

Executives

Scott Verlander – VP, Corporate Development

Rob Clements – Chairman and CEO

Blake Wilson – President and COO

Steve Fischer – EVP and CFO

Analysts

Jefferson Harralson – KBW

Peyton Green – Sterne Agee

John Pancari – Evercore Partners

Nick Carzon – Credit Suisse

Kevin Barker – Compass Point

Operator

Good morning, ladies and gentlemen. Thank you for standing by. Welcome to EverBank Financial Corp’s Third Quarter 2013 Earnings Conference Call. My name is Amy and I will be your Conference Operator today. At this time, all participants are in a listen-only mode. After the prepared remarks, the management from EverBank Financial Corp will conduct a question-and-answer session, and conference participants will be given instructions at that time.

As a reminder, this conference call is being recorded. I would now like to turn the conference over to Scott Verlander, Vice President of Corporate Development for the company. Mr. Verlander, please go ahead.

Scott Verlander

Thank you, Operator. Good morning, everyone, and welcome to EverBank Financial Corp Third Quarter Earnings Call. Today I’m joined by Rob Clements, our Chairman and CEO; Blake Wilson, our President and COO; and Steve Fisher, our Executive Vice President and CFO.

Before we begin I would like to remind you that our third quarter earnings release, financial tables and earnings supplement are available on the Investor Relations section of our website at www.abouteverbank.com.

I would also like to remind you that comments made on today’s call deal with forward-looking statements related to the company and the banking industry and are subject to risks and uncertainties. Factors that may cause our actual results to differ from expectations are detailed in the company’s filings with the SEC which you may access on the SEC’s website.

In addition, some of the company’s remarks this morning contain non-GAAP financial measures. You can find reconciliations of those measures to the most comparable GAAP measures in the company’s earnings release and financial tables. I would now like to turn the call over to the company’s Chairman and CEO, Rob Clements.

Rob Clements

Thank you, Scott, and good morning. As reported in our earnings release, we earned GAAP net income of $33 million or $0.25 per share in the third quarter. Adjusted for consent order related cost, other onetime expenses and the MSR evaluation of balance recovery, net income was $34 million or $0.26 per share.

Blake and Steve will go into more details around the quarterly results. But I think it is important to first highlight the significant progress we have made this quarter in executing our strategic goals.

Over the past four years, we have executed on our strategic plan to build a national banking franchise that generates a diversified mix of quality assets which are funded by a low, all-in cost, highly scalable deposit franchise.

We built and acquired key commercial and consumer asset generation platforms that source attractive assets in diversified loan classes. We have also achieved robust organic growth and high quality consumer and business deposit balances to fund this growth.

During this multiyear process, we also made significant investments in our corporate services and risk management function to enable us to continue to grow our franchise and balance sheet and maximize the combined synergies of our banking franchise.

Consistent with this strategic evolution, during the third quarter we simplified the franchise and positioned the organization to focus on our core clients. First, in our earnings release this morning, we announced a series of transactions designed to optimize our servicing business by partnering with Walter Investment and its subsidiary, Green Tree on the sale of subservicing of $20.3 billion UPB of higher delinquency profile servicing and the sale of our default servicing platform.

Next, our previously announced settlement with the OCC and Fed to end our independent foreclosure review will extend the burden from the expensive third party review process and enable us to refocus the significant resources we had dedicated to this process on our core business activities.

Third, we completed our previously announced exit from the wholesale broker mortgage origination business to principally focus on growing our balance sheet with purchase-oriented residential venue to core clients.

Our residential lending strategy and in particular, the investments in our retail channel, has resulted in steady gains in market share and purchase money transactions.

And finally, we completed our realignment of our three commercial lending platforms into a unified business unit. These business lines continue to build momentum and we expect them to be a key source of strategic growth in the future.

We believe these initiatives will have a meaningful impact on our company as they simplify the operations and provide better transparency into the earnings power of EverBank’s unique business model.

To focus the company in our core, high value banking and lending activities allow us to improve efficiency and operating leverage; reduced market and regulatory uncertainty; and finally, allow us to focus on our core clients and enhance the value of our relationships with them.

All of these strategic initiatives were designed to best position the company for long-term growth across our diverse platforms. Given our strong capital and liquidity, we are well-positioned for sustainable organic growth and strategically attractive core businesses.

I would now turn the call over to Blake.

Blake Wilson

Thanks, Rob, and good morning, everyone. I would like to take you to a more in-depth look at the initiatives that Rob touched on and further describe how the strategy positions us for strong results in the future.

Driven primarily by a significant reduction on loan sale for sale, we ended the quarter in a strong capital and liquidity position with tier one leverage of 8.8% and approximately $1.1 billion in cash.

As a result, we are well-positioned for the strong organic loan growth we are experiencing our consumer in commercial lending businesses. We originated $1.1 billion of assets for our balance sheet this quarter and continue to see strength across our asset channels which will provide significant improvement to spread income in the coming quarters.

In the third quarter, we originated over $350 million of commercial loans to small and midsize businesses. Year-to-date, new commercial loan originations have exceeded $1 billion bringing the mix of commercial loans to 45% of our held for investment portfolio compared to 30% a year ago. We expect our commercial real estate and commercial finance platforms to be a significant growth driver for loans and deposits in the future.

Related to our residential lending and servicing businesses, as Rob mentioned, we have made significant adjustments to enhance our focus on our core clients. In our servicing business, we executed agreements with Green Tree yesterday under which we will sell servicing rights on $13.4 billion of UPB, have Green Tree subservice our $6.9 billion of UPB in Ginnie Mae and government loan portfolios and sell our default servicing platform.

The servicing sells expected to close in the fourth quarter while the Ginnie Mae subservicing agreement and the default platform sell are expected to close in the first quarter of 2014 commensurate with the operational transfer of the acquired in subservice loan portfolios.

Green Tree will make offers to hire at least 500 default and related servicing associates currently employed by EverBank, assume lease obligations on approximately 86,000 square feet of space at EverBank Center in Jacksonville and acquire the fixed assets of our default servicing platform.

Pro forma for this transaction, our servicing portfolio will consist of approximately $40 billion of UPB of prime mortgage servicing with attractive performance metrics. The remaining portfolio has a low coupon, a significantly improved cost structure, a client base with characteristics consistent with our core banking and lending clients and an attractive earnings profile.

We are pleased to be able to partner with a firm like Green Tree on the transaction since the servicing of loans with higher delinquency profiles has become increasingly scale-driven and specialized.

In addition to the strategic benefits, we also expect to realize significant financial benefits from the transaction. We expect most of the benefits to occur after the platform and portfolio is transferred to Green Tree early next year.

We believe this transaction will improve pretax income by $20 million to $25 million. In the fourth quarter of 2013, we expect to realize onetime non-reoccurring transaction related costs of $10 million to $15 million.

In our residential lending business, through our access of the wholesale broker channel, we have simplified our activities to concentrate on serving the lending needs of our clients with prime purchase-oriented jumbo lending in markets where we have banking relationships.

This focus will enable us to emphasize bank portfolio lending while also providing an attractive mix of non-jumbo conventional loans. Naturally, this will provide further transparency into our earnings and balance sheet positions through moderated contributions from gain on sale and loan sale for sale and increase contributions from spread income and loan sale for investment. This strategy will also lower the regulatory, FDIC, and corporate services costs required to manage non-core channels and products.

In the third quarter, we continue to see strong results from the strategy with $767 million of jumbo adjustable rate loans originated into the bank’s portfolio. Our residential channels outperform the industry in the quarter as our market share increased by approximately 38% over the last year.

Additionally, the total mix of purchase transactions of 40% in the third quarter compared to 32% last quarter and our retail channel purchase mix increased from 49% to 66% of originations.

In closing, I would like to outline the growth potential of our franchise over the next few years. Using third quarter figures, we originated approximately $1.1 billion of balance sheet assets which equates to approximately $4.4 billion on an annualized basis.

Our current liquidity and capital position will enable us to achieve significant incremental growth and generate increase net interest income. We also believe we will be able to realize further non-interest expense reductions as a result of the activities we’ve outlined today.

We think the result as the banking franchise that generates attractive asset in deposit growth was stable and predictable earnings in ROEs. Now, I will turn the call over to Steve to cover the financial results for the quarter in more detail.

Steve Fischer

Thanks, Blake, and good morning. We have a solid quarter that continued to show the power of the franchise during the transition we are experiencing in the mortgage market.

EverBank’s ROE for the quarter was 8.7%, and adjusted ROE was 9% with tangible book value increasing 4% in the quarter to $11.42, an increase of 11% year-over-year. Total loans and leases held for investment were $12.6 billion at quarter end, down 2% quarter-over-quarter reflecting solid loan growth in most categories offset by a decline in our warehouse finance business. Pro forma for this decline, loans held for investment would have increased 1% on a linked quarter basis.

Consistent with the level of liquidity we have, total deposits were flat in the quarter at $13.6 billion, has a 4% decline in time excluding market-based deposits, was offset by a 13% in non-interest bearing demand deposits. Year-over-year, total deposits have increased $1.8 billion or 15%.

Our credit performance continues to be strong with delinquencies in our core portfolio around 1%. However, this quarter we didn’t experience a 9 basis point increase in our non-performing assets ratio as well as an 18 basis point increase in our net charge-off ratio. This increase was opened from a few commercial real estate loans and included a large loan that is expected to pay-off in full during the fourth quarter.

Our core net interest margin declined 4 basis points compared to the second quarter, to 3.17%. A decrease in our residential loans held for investment and securities yields, offset improvement on our commercial loans held for investment yield and lower deposit rates.

During the quarter, we used excess cash to retire $800 million and higher cost wholesale borrowings which will positively impact net interest income and NIM in the future.

This funding optimization reduced the realized hedge lost in OCI by over $30 million which will reduce interest expense over the next three to four years. Our non-interest income was $144 million for the quarter, a decrease of approximately $3 million or 2% quarter-over-quarter.

Net loan servicing income increased $12 million as we recaptured $35 million of MSR valuation allowance leaving a remaining recoverable valuation allowance of $23 million.

Amortization expense was $30 million, a decline of 15% compared to the second quarter due to our servicing portfolio, CPR declining to approximately 14% compared to 21% in the second quarter.

As we shared with you last quarter, we anticipate further reductions in MSR amortization if mortgage refinance activities slows consistent with industry forecast, offsetting the positive impact from loan servicing income and an increase in other income with a $24 million decrease in gain on sale of loans driven by lower origination volumes, lower margins, and a higher percentage of loans being retained for our portfolio.

We do, however, expect to gain on sale margin will increase from third quarter levels as future loans sellable consists primarily of agency eligible products.

Our non-interest expense was $226 million, an increase of $12 million over the prior quarter. Adjusted for foreclosure review and settlement cost of $33 million and restructuring cost of $5 million related to our exit of the wholesale broker business and other staffing adjustments, NIE was $188 million in the quarter, a decrease of 3% compared to $194 million in the second quarter.

Our salaries, commissions and employee benefits decreased $7 million or $12 million adjusted for the severance cost during the quarter driven by lower variable expenses such as commissions, contractor and overtime expense.

We do remain committed to making the appropriate adjustments to capacity as we reposition and rebalance our business activities for the new REIT environment.

G&A expense increased by $18 million or 28% from the second quarter due primarily to $33 million in previously announced foreclosure review and settlement expenses. At disclosed in our earnings release, we along with other servicers received a letter from OCC requesting an action plan to address potentially impacted borrowers serviced by EverBank subsequent to January 1, 2011. We are currently preparing our action plan for OCC review and we’ll submit it in November.

Now, I’d like to turn it back over to Rob for some closing remarks.

Rob Clements

Thanks, Steve. As I hope you can tell, we are enthusiastic about the future for EverBank and believe the result will be simplified and strategically focused banking franchise with increased earnings visibility which should improve the valuation profile of the company.

With that, operator, please open the line for questions.

Question-and-Answer Session

Operator

Thank you. We will now begin the question-and-answer session. (Operator instructions) Our first question is from Jefferson Harralson with KBW. Go ahead, please.

Jefferson Harralson – KBW

Thanks. Maybe I’ll just start with the outlook for the mortgage business and originations. I know you have a couple hundred million maybe coming out from the rest of the wholesale piece streaming out, but can you comment on the outlook for originations maybe for the next couple quarters?

Rob Clements

Hey, Jefferson. It’s Rob. We continue to be really pleased with the success we’ve had and building out our residential production channels. In particular our retail build out continues to go very well. Obviously industry volumes have come down but we continue to gain market share. And we expect that will be the case going forward. Volumes are relatively stable as far as our outlook. And we really feel good about the continued progress we’re making in the build out of our residential business lines overall and again in particular the retail channel.

Jefferson Harralson – KBW

Okay. And the commercial origination was down decently from the last quarter. Was that all in a mortgage warehouse or is that – can you comment on that decline quarter-to-quarter?

Rob Clements

Yes. We did say it’s up and the warehouse went down to about $850 million at the end of the quarter as utilization rates came down during the quarter, but our commercial lending businesses overall looked very good, very strong and we feel good about the momentum that we’re experiencing as we work out over the next couple of quarters.

Jefferson Harralson – KBW

All right. Thanks, guys.

Operator

Our next question is from Peyton Green with Sterne Agee. Go ahead, please.

Peyton Green – Sterne Agee

Yes, good morning. I was wondering if you could maybe talk about the allowance on the MSR. How much of that will move over effectively with the sales servicing? And then was the carrying value of those MSR is lower than your overall blended or was it approximately the same?

Steve Fischer

Hey. Good morning, Peyton, it’s Steve. I think the way to answer to that is that we think that there’ll really be no material gain or loss upon the sale of those MSRs and that is net of the valuation allowance recovery that would be a component of that as well. So there’s not really a specific valuation allowance that’s attributed to that but we think that the interrelationship between the gain and loss on the sale of the MSR and the recovery in the value related recovery will essentially offset and result in a no net material gain or loss.

Peyton Green – Sterne Agee

Okay. And then Blake, I think you mentioned that you were optimistic about further expense reductions and I guess implying more improvement in the mortgage business in terms of a pretax contribution. And I thank you all out loud because in the quarter that it contributed a loss of about $13 million in the expected $20 million to $25 million pretax from the sales and servicing in the platform earlier today. I mean generally, what’s your outlook for the mortgage business going forward? I mean it’s been an interesting 12 to 18 months as you built out an entirely new channel but how much operating leverage would you expect given the current environment going forward?

Blake Wilson

Thanks, Peyton. We really see a lot of growth and stability and operational leverage and improvement from the repositioning initiatives that we put in place here today. Really focusing on purchase money driven, jumbo asset growth combined with some of the non-agency growth, we really simplify the operating environment in a way that we could see visible growth in loan volumes and really driving, improved efficiency through both the retail channel, the direct channel, and the correspondence channel.

And so as we simplify and focus the overall business on our core, commercial and residential client base, it also allows us to really just simplify the shared services in the other operating environments. So that combined with partnering with specialized scale-driven player that can really drive efficiency and that core client base is really in the credit sensitive area for Green Tree. We think it allows us to really advance of all significantly from an operational efficiency and leverage perspective.

Peyton Green – Sterne Agee

Okay. And then last question. And I mean if you would gone about this a year ago, I mean, was this just much better timing or where there are other reasons that you do that now that maybe weren’t financial?

Rob Clements

Hey, Peyton, it’s Rob. As you’re probably aware, there’s been a real migration of default servicing of this market segment to – increasingly to specialize scale-driven servicers. And reflecting kind of market environment and the regulatory environment, that was really kind of driving the timing around our decision and the realization that that business is – went itself to those firms that really do specialize in that niche and have the scale that makes sense.

For us it was very important that we found a partner that really valued what we consider to be the best in class, default servicing platform really value the employees that we have in that operation. So we’re pleased that they are going to take up our platform and that we anticipate an ongoing relationship with the Green Tree and expect that they’re going to want to grow that platform going forward.

But it was really just an evolution in the market environment and the realization that this was a strategic fit for Green Tree and that this business was becoming less of a strategic fit for us as we look at our core competencies.

Blake Wilson

I mean the other thing I’d add to that is you can tell by our remarks today, we really have spent a lot of time in a strategic evaluation of all of our businesses looking at the growth opportunities, the market opportunities, our competitive strengths and positions and really have outlined a number of logical steps in this long term evolutionary process that we’ve been working through. And so the timing of the transaction obviously fits into really the broader strategy that we’ve been executing on.

And now as we start to working the 2014 and 2015, really start to see the final phase of all this work we’ve been doing over the last four years in building out these core businesses through the acquisition process as well as starting to shed some of the environmental cause and non-core activities that are legacy issues related to the financial crisis. And so it really is kind of an important point for us in our strategic evolution and we’re pretty excited about 2014 and 2015 as a result.

Peyton Green – Sterne Agee

Okay. So I mean it’s fair to say that you would expect a quieter, more organically driven growth environment over the next couple of years instead of a difficult regulatory environment than when you’re focused on on repositioning, is that fair?

Blake Wilson

Yeah. That’s well-put.

Peyton Green – Sterne Agee

Great. Thank you very much.

Operator

Our next question is from Erika Najarian with Bank of America Merrill Lynch. Go ahead, please.

Unidentified Analyst

Good morning. This is Ibrahim [ph] on behalf of Erika.

Blake Wilson

Good morning.

Scott Verlander

Good morning.

Steve Fischer

Good morning.

Unidentified Analyst

Well, my first question, I just wanted to sort of follow-up on expenses and just sort of clarify in terms of when we look at the expansion rate of about $189 million of the banking of the $32 million tied to the foreclosure settlement and the restructuring expense for the quarter, how should we think about that expansion rate relative to the $189 million for third quarter going forward in terms of the benefit from law or consulting and professional expenses now that you’ve done the foreclosure settlement? And what are the benefits from this MSR sale flowing into expenses looking into 2014. I’m just trying to figure out how much lower this can go on in sequel based on these two actions as we think about fourth quarter and next year’s expense on date?

Steve Fischer

Hey, there. This is Steve. I think we’re going to see benefits from the servicing transaction really in all the categories related to the transaction that we have announced. So as we kind of focus in you’ve got the $33 million as you referenced coming out already, we’ll see residual benefits in the other legal professional fees and the other environmental cost, but that’s the large chunk of those. I think if you study the G&A line items and back that out and get to it about $53 million type of run rate and I think we’ve been running in $50 million to $53 million run rate there, that’s probably not a bad place to assume.

But then when you – as we talked about with the – inside this transaction of agreeing to acquire the 500 employees, at least 500 employees, that’s going to flow through and be a materially decline in our salary line item. And then we’ll also – the three floors, if they’ve agreed to take it to EverBank Center, you have 86,000 square feet, you’ll obviously see some nice reductions in the occupancy and equipment line items.

And then just generally as we see environmentally [ph] and some of the regulatory risk reductions that’s going to allow us to focus in on some of those other G&A lines as well.

Unidentified Analyst

Good. Thank you. And my second question is just on the remaining sort of valuation recovery on the MSR, I believe if I understand correctly we had about $58 million at the end of second quarter backing all the 35 for this quarter, is it reasonable that we have about $20 million to $23 million remaining that will flow through the next few quarters?

Steve Fischer

That’s right. We’ve got $23 million remaining. That ultimately is dictated based on where market rates and interest rates are. We’ve paid in full. You heard the reference in there that we’ve seen a very material drop and paid in full down, the CPR on the portfolios down to 14%. So you’re going to really see it both in the amortization continuing to decline which I think is an important point. But you’re also, the $23 million is there to be recovered over the next few quarters, again, assuming that we have either stayed here or increasing in rates.

Unidentified Analyst

Good. And thank you very much.

Operator

Our next question is from John Pancari with Evercore. Go ahead, please.

John Pancari – Evercore Partners

Good morning.

Rob Clements

Good morning, John.

Steve Fischer

Good morning.

John Pancari – Evercore Partners

The transaction with Green Tree, does that mean that essentially that Ginnie Mae pool buyout business essentially goes away after this?

Scott Verlander

No. One of the great things about the partnership with Green Tree is the fact that as you know from the transaction, about $13 billion a little higher than that was associated with the sale of MSR, the six or just under $7 billion component was a subservicing relationship primarily around the Ginnie Mae portfolio.

So that will allow us to continue to invest in Ginnie Mae assets and use them as a partner and leverage their scale from an operating perspective. We also see good opportunities that are kind of complementary between our strategy and the banking strengths versus some of the specialized players in the space and so really we see even future opportunities to continue to partner and leverage their operational focus with our balance sheet appetite and focus.

John Pancari – Evercore Partners

Okay. All right. And then the $20 million to $25 million pretax benefit from the transaction of Green Tree all in, can you help us with the components of that? How much of that is the foregone costs associated with it? And then how we can think about where you came up with that quantification?

Scott Verlander

Yes. The key driver of it overall is there’s a reduction in revenue. Principally we relate it to servicing and other ancillary fee incomes that are also offset by ongoing amortization expense. And then clearly there’s the benefit of leveraging their scale and focus in the credit sensitive servicing business, and really that’s a significant component to the reduction in operating expenses that Steve talked about. And the net resolve is this, we believe $20 million to $25 million of pretax income savings.

John Pancari – Evercore Partners

And did you have the actual breakout of these components?

Steve Fischer

We do. I mean just to some degree in broad strokes we do. I think from a non-interest income perspective some of the offset of the servicing fees and then combined with the improvement in amortization we see $15 million to $20 million reduction in revenue out of this. And then we see about $40 million to $45 million or $50 million savings from a total non-interest expense perspective. So that’s how we get to the next $20 million to $25 million.

John Pancari – Evercore Partners

Okay. All right. That’s helpful. Thank you. And then can you talk a little bit about your expectation for the retained portfolio [indiscernible] on your balance sheet? And then you gave us a little bit of color around production levels and the pipeline, but can you talk about how we can think about the growth in the on balance sheet portfolio?

Blake Wilson

Yes. One of the thinks that we have seen with the selloff in the interest rate market is an increase in the hybrid ARM asset generation activities. So as we talked about in the third quarter, we had about $350 million of commercial assets generated for the portfolio, about $767 million of residential assets or a little over $1.1 billion. On annualized basis, that’s $4.4 billion. And the recent trends include a higher shift towards the portfolio on products and the hybrid ARM portfolio.

So when you look at that kind of organic growth, we think that that’s a very strategic and visible and continue to build momentum overall, and it’s also on the scalable platforms that we think we can drive really strong operational efficiency. So with the capital and liquidity position around 8.8% and over $1billion of cash, and simple math around the next billion dollars of every billion dollars of asset growth with 3% spread will be a nice spread driver to income in the coming periods.

John Pancari – Evercore Partners

Okay. And if I can ask one more housekeeping type of question but the spike and non-interest income in the quarter, linked quarter basis, can you give us a little color what drove that?

Steve Fischer

Sure. The primary driver there is the funding optimization that we did so we had gains on certain settlements of some of those borrowings offset by the realized loss of $30 million that I referenced in my remarks but actually resulted in a net gain of about $5 million to $6 million and that net gain is sitting in that P&L line item.

John Pancari – Evercore Partners

Okay. Thank you.

Operator

(Operator instructions) And our next question is from Craig Siegenthaler with Credit Suisse. Go ahead, please.

Nick Carzon – Credit Suisse

Good morning. This is actually Nick Carzon for Craig this morning.

Steve Fischer

Good morning.

Blake Wilson

Good morning.

Steve Fischer

Good morning, Nick.

Nick Carzon – Credit Suisse

I guess first on the gain on sale margin, you had about $300 million of wholesale broker, nice originations in the quarter. And if you were to exclude the gain on that from the kind of the numerator and then the loans originated from the denominator, how would that have impacted the margin this quarter?

Steve Fischer

Yes. Hey, Nick, it’s Steve. And I think you heard or saw in my remarks and I think we’ve referenced it in the earnings release. I think the key point is that we’re focused I think going forward with the strategic shift that most the jumbo product is going to the balance sheet that we’re going to be selling agency product and so that’s why we gave the data around that agency margin and in the prior quarter was that 2.86%. Now included in that 2.86%, if you take that as your baseline looking forward there’s probably a couple puts and takes, one which you’re bringing up which is the close of the wholesale broker business. Being our lowest margin business, that will, on a pro forma basis would actually improve that margin in the third quarter.

But that includes 28% hard contribution as well. So I think that it’s something that’s peaking and will be a nice contributor but likely will be less of a contributor. So I think those are the puts and takes but I would start moving forward with that 2.86% agency margin we gave you.

Nick Carzon – Credit Suisse

Okay. Thanks. And I guess as a follow-up, on the deposit side, we saw the decline in deposit clause that you mention from the reductions on the second quarter that occurred late I the second quarter. But just wondering it looked like your CD cost went up a little bit. Can you give us some color on your strategy there and what we might see going forward?

Rob Clements

Yes. So right now obviously given the change in the market conditions, we’ve moderated our marketing activities related to deposit growth. We’re still seeing reasonable growth in the core deposit business overall. We’ve seen some runoff in some of the master – brokered CDs and other time deposits so it’s really been a little bit of a rotation and some of the non-core deposits into core, but right now we’re really focused on retaining our quality clients and moderately growing in the core deposit base.

Nick Carzon – Credit Suisse

Okay. Thanks for taking my questions this morning.

Blake Wilson

Sure.

Steve Fischer

Thanks, Nick.

Operator

Our next question is from Kevin Barker with Compass Point. Go ahead.

Kevin Barker – Compass Point

Good morning. Thanks for taking my questions. Regarding that $40 million to $45 million expense reduction related to the MSR sale, was any of that expense reduction related to transaction or regulatory related expenses?

Steve Fischer

No.

Kevin Barker – Compass Point

So it’s purely a core operating line?

Blake Wilson

That’s right.

Steve Fischer

That’s correct.

Kevin Barker – Compass Point

And then if – you’re selling a lot of these MSRs. I’m assuming some of them are – a significant amount of them are probably HARP eligible, would you expect a decline in your gain on sale margins due to a decline in HARP originations from the sale of this MSR portfolio or do you expect just a little impact?

Blake Wilson

I would say little impact. The – very modest to very natural amount of HARP eligible loans in the portfolio that we’re selling.

Kevin Barker – Compass Point

Okay. Are you still seeing higher gain on sale margins on HARP loans compared to regular way agency loans that you’re originating right now?

Steve Fischer

Yes, modestly higher. And I think that was kind of the reference that puts and takes on the gain on sale margin but I referenced as with HARP peaking at 28% of total volume this last quarter I think that will just not as the result of this transaction but just after where we are with the HARP program will continue to come down which will put some pressure on that 2.86% that I referenced.

Kevin Barker – Compass Point

Offset by the wholesale production going away.

Steve Fischer

Offset by the wholesale. That’s right.

Kevin Barker – Compass Point

Okay. Okay. And then if following the sale of this MSR, what would be your pro forma Basel III ratio from the 9.5% to 10% you estimate today?

Steve Fischer

Yeah. I think we see 50 to 100 basis point improvement in that overall from what we’ve released before, so that’s to give you a good sense so we are seeing some nice improvement as it relates to that.

Kevin Barker – Compass Point

Would there be any plans to deploy that or would you say you’d be more aggressive in growing your loan book in order to fully utilize that excess capital right now?

Blake Wilson

Yes. We’re focused on growing our core commercial and consumer lending in the banking businesses. And with that, with greater residential portfolio of growth going to the balance sheet versus into the capital markets, we’re also creating less net MSR on a period basis. So overall we see a lot of the capital focused in areas we’ve been talking about today strategically on the clients and segments that we’re growing.

Kevin Barker – Compass Point

And one last question. And following up on the regulatory environment, are you seeing the FHA to be more aggressive with servicers and how well they are servicing certain loans, the timeline associated with them, and the feedback that they’re getting, are you seeing that from the FHA?

Blake Wilson

No. We’re constantly in good standing and good relationship with the FHA. And obviously one of the great reasons why Green Tree is interested in the strategic, this platform strategically for their business, and so no, the answer is we’re business as usual right now with the FHA.

Kevin Barker – Compass Point

Okay. Thank you for your time.

Steve Fischer

Sure. Thanks, Kevin.

Operator

Our next question is a follow-up from Peyton Green with Sterne Agee. Go ahead, please.

Peyton Green – Sterne Agee

Yes. Just to clarify on the HARP volume expectation going forward. To what degree was the HARP paper [ph] which all originated in the quarter from your own versus the servicing book that you purchased earlier in the year?

Blake Wilson

The majority of that was from our own and we continue to have somehow opportunity in the coming quarters from a HARP perspective, that as Steve indicated, obviously as we look longer term into 2014 to 2015, that will continue to taper off.

Peyton Green – Sterne Agee

Okay. Okay. Great. Thank you.

Operator

This concludes our question-and-answer session. I would like to turn the conference back over to Mr. Rob Clements for closing remarks.

Rob Clements

Well, thank you for joining us today. And we look forward to updating everyone on future calls. Have a great day.

Operator

The conference has now concluded. Thank you for attending today’s presentation. Please disconnect your lines.

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