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BofI Holding Inc. (NASDAQ:BOFI)

F1Q14 Earnings Call

November 5, 2013 4:30 PM ET

Executives

Mark McPartland – MZ Group

Greg Garrabrants – President and CEO

Andy Micheletti – EVP and CFO

Analysts

Hugh Miller – Sidoti & Company

Andrew Liesch – Sandler O'Neill & Partners

Julianna Balicka – KBW

Jim Fowler – Harvest Capital

Operator

Good day, ladies and gentlemen. Thank you for standing by. Welcome to BofI Holding, Inc.'s First Quarter Fiscal 2014 Earnings Conference Call. During today's presentation, all parties will be in a listen-only mode. Following the presentation the call will be open for questions. (Operator Instructions) This conference is being recorded today, Tuesday, November 5, 2013. Now, I would like to turn the conference over to Mr. Mark McPartland from MZ Group. Please go ahead, sir.

Mark McPartland

Thank you, Operator, and good afternoon, everyone. Joining us today from Bofi Holdings Inc.’s First Quarter Financial Results Conference Call are the company’s President and Chief Executive Officer, Greg Garrabrants; and Executive Vice President and Chief Financial Officer, Andy Micheletti.

Greg and Andy will review and comment on the financial and operational results for the first quarter, and they will be available for answers to your questions after the prepared presentation.

Now before we begin, I would like to remind our listeners that on the call today, prepared remarks may contain forward-looking statements that are subject to risks and uncertainties and that management may make additional statements in response to your question. Therefore the company claims the protection from the Safe Harbor for forward-looking statements that is contained in the Private Securities Litigation Reform Act of 1995.

Forward-looking statements related to the business of BofI Holding, Inc. and its subsidiaries can be identified by common-used, forward-looking terminology and those statements involve unknown risks and uncertainties, including all business-related risks that are more detailed in the company's Form 10-K, 10-Q and 8-K filings with the SEC.

This call again is being webcast and there will be an audio replay available on the company's Investor Relations website located at bofiholding.com. All the details of this call were provided in the conference call announcement and in the earnings press release earlier this morning.

At this time, I'd like to turn the call over to Mr. Greg Garrabrants, who will provide opening remarks. Greg, the call is yours.

Gregory Garrabrants

Thank you, Mark. Good afternoon, everyone, and thank you for joining us. I'd like to welcome everyone to BofI Holding's Conference Call for the first quarter of fiscal 2014 Ended September 30, 2013. I thank you for your interest in BofI Holdings and BofI Federal Bank.

BofI announced record net income for its first quarter, ended September 30, 2013, of $12,182,000, up 35.5%, when compared to the $8,989,000 earned in the first quarter ended September 30, 2012 and up 9.4% when compared to the $11,132,000 earned last quarter ended September 30, 2013.

Earnings attributable to BofI's common stockholders were $12,104,000 or $0.85 per diluted share for the quarter ended September 30, 2013, compared to $0.78 per diluted share for the quarter ended June 30, 2013, and $0.67 per diluted share for the quarter ended September 30, 2012.

Excluding the after-tax impact of net gains related to investment securities, core earnings for the first quarter ended September 30, 2013, increased 31.4% when compared to the quarter ended September 30, 2012.

Other highlights for the first quarter include, total assets reached $3,284,000,000 at September 30, 2013, up $193 million, compared to June 30, 2013, and up $667 million, from the first quarter in fiscal 2013.

Return on equity reached 17.73% for the first quarter. Total deposits reached $2,193,000,000 up $101 million compared to June 30, 2013. Our loan units had another great quarter with $658 million in gross loans originated in the quarter, the $658 million of production consisted of $99 million of single-family agency eligible gain on sale production, $13 million of single-family agency eligible gain on sale production, $244 million of single-family jumbo portfolio production, $50 million of multi-family non-agency eligible gain on sale production, $75 million of multi-family portfolio production and $178 million of C&I and specialty asset production.

Our warehouse lending division originated $458 million of single-family production in the first quarter. Despite a market that was generally a bit choppier for many of our competitors, the Bank originated $641 million in the single-family multi-family and C&I lending groups, an increase of over $100 million over the linked quarter, despite a drop in the single-family agency gain on sale production.

I am particularly pleased with our C&I lending business producing $142 million of production in the first quarter, almost double the number produced last quarter. The Bank achieved good quarterly loan growth growing the loan balances by 8% over the linked quarter and at a 32% annualized rate.

The excellent performance of our single-family jumbo, multi-family lending C&I lending and specialty finance groups resulted in $258 million of net loan growth and 11% increase over the prior quarter and a 44% increase on an annualized basis.

However, this strong performance was offset by a reduction in the single-family agency and warehouse lending group’s ending of quarter balances that fell by $88 million, reducing the $258 million of growth in the single-family jumbo multi-family C&I and specialty finance business, to a net of $170 million of net growth, still a respectable 32% annualized growth, but lower than the 44% annualized growth rate that would have been achieved without the one-time balance reductions in warehouse and agency pipelines.

Although the Bank does not expect to grow its balance sheet by those higher percentages, this product can be sold to generate fee revenue in the future. Although there may be small adjustments, both positive and negative to the single-family agency held-for-sale pipeline, and the warehouse lending pipelines, it is very unlikely that a reduction in those pipelines of $88 million in one quarter will reoccur.

In fact, the warehouse lending group has a robust pipeline of new applications, and the single-family agency pipeline has risen from the end of September quarter until the end of October.

Single-family agency gain on sale revenue was particularly impacted by any pipeline adjustments, given that the pipeline is mark-to-market at the end of the quarter. Our lending pipelines as of October of 30, 2013 are at record levels with $425 million of jumbo loans, $154 million of multi-family loans, and $167 million of C&I loans fortifying the likelihood that the Bank can continue to enjoy robust asset growth.

Because the Bank sells its agency mortgage loans and both sells and retains its single-family jumbo multi-family, and specialty finance production, the Bank has the ability to sell our jumbo single-family and multi-family loan production to offset any potential decline in agency mortgage banking income with mortgage banking income from other sources.

By way of example, the bank typically sells its multi-family loans in the secondary market in the $104 plus price range. If the bank decided to sell the incremental multi-family production generated from the June 2013 to the September 2013 quarter, this would generate an additional $2.5 million in mortgage banking revenue in the quarter.

Additionally, these sales are generally much more profitable than agency gain on sale business. The net profit after all costs, including marketing, overhead allocations, and income tax for multi-family loans is approximately 100 basis points higher than agency production.

We are very bullish about loan volumes in our business generally. We are particularly bullish about the jumbo mortgage business because we believe that multiple regulatory and competitive factors provide strong tailwinds to our business. Despite the occasional sporadic deal, the securitization market is not an effective alternative to balance sheet lending at this time.

The enhanced capital requirements at larger banks are driving many of them to exit businesses and reprice loans, and many potential competitors are discouraged by the wave of complex regulations, specifically related to the qualified mortgage rules coming into effect in this January that are not well correlated to the risk on individual loans.

Becoming qualified mortgage rules sale to specify any particular loan-to-value ratio, and the income guidelines that were essentially copied from FHA guidelines are not well tailored to the unique and complex financial situations of high-end jumbo borrowers. For this quarter, our non-interest income continues to show the diversity of our platform.

This quarter, our non-interest income, excluding securities and mortgage prepayment penalties is $6 million consisting of $800,000 of mortgage banking income from single-family agency eligible mortgage loans, $500,000 of mortgage banking income from single-family jumbo mortgage loans, $700,000 of mortgage banking income from multi-family mortgage loans, $3.1 million of income from the sale of structured settlements and other loans; $600,000 of prepaid fees; and 300,000 of other fees.

We are pleased with the increase in the credit quality at the bank. Our non-performing assets as a percentage of total assets are down from 82 basis points at the end of the September 2012 quarter to 55 basis points at the end of the quarter ended September 2013. We are often seeing gain on the sale of our RAOs versus our portfolio marks on the relatively few non-performing assets we have given the significant recovery in the housing market.

Into the second quarter of our fiscal year that trend appears to be continuing. We continue to remain focused on credit quality at the bank and have not sacrificed credit quality to increase originations. Combining the last two quarters, the bank has had no net charge-offs, a trend not seen since 2007.

The low level of charge-offs and favorable asset quality trend this quarter resulted in loan loss provisions of $0.5 million, down from $1.5 million last quarter. For the first fiscal quarter’s originations the average Fico for single-family agency eligible production was 769 with an average of undervalue ratio of 64%.

The average Fico for the single-family jumbo production was 725 with a weight average LTV of 61%. The average loan to value ratio of the originated multi-family loans was 59% and our debt service coverage ratio was 1.58 times coverage. At September 30, 2013 the weighted average LTV of our entire portfolio of real estate loans was 55%.

In the prepaid arena, we have several programs that are in the process of implementation, which will further increase our fee income and generate low-cost deposits. Our deposit and other fee income outside of the prepaid area has also grown substantially over the fiscal year, and our pipeline of transactions with either finalized contracts or contracts in negotiations have the potential to significantly increase non-interest income.

We began originating structured settlements for sale last quarter and ramped up sales this quarter generating $3.1 million in the sale of structured settlements and other loans. We have significant opportunities to increase our income from the sale of structured settlements if we desire.

We continue to make progress in growing and enhancing our deposit franchise. Our goal is to increase our share transaction accounts and develop deeper customer relationships. We have made strong progress on changing the mix of our deposits to become more transaction focused.

From December 2011 to September 2013, we grew our checking our checking account balances by 554%, our money market balances by 140%, while our certificate of deposit balances decreased by 43%. Transaction accounts now make up 61% of our deposit base, up from only 42% from a year ago and have resulted in good growth in our interchange and other deposit fee income.

Our business banking group had over $467 million of total deposits at the end of the quarter, up from $314 million in the prior quarter ended June 30, 2013 and we reached approximately $0.5 billion of deposits in business banking this month. The business bank has about 2000 accounts with 65% of balances comprise of checking accounts.

We continue to foresee robust growth in our business deposit balances. Including the growth of both consumer and business checking, we have grown our checking account balances by over 51% this fiscal year.

We closed the principal bank transactions this quarter which added approximately $173 million of deposits and 8400 accounts from principal bank including over 7000 checking accounts.

The weighted average deposit cost of the transactional accounts was 43 basis points and the weighted average total deposit cost is approximately 57 basis points. We paid no premium for these deposits and we assume them at par value.

Although our efficiency ratio isn't quite where we think it can be, or when our newer businesses and infrastructure investments reach scale, we feel very good about the cost management initiative we had undertaken over the past six months.

This was not an initiative to downsize our employee base in any respect and we continue to invest in our people. But want to ensure that we have best-in-class management of our expenses. The impact of this initiative was evident in the reduction of our non-interest expense of $840,000 over the linked quarter despite robust asset growth.

We have not accomplished this reduction by reducing our focus on scaling our operations, and we continue to invest in our people, processes, and our scalability. We continue also to invest in our operational and risk management infrastructure to ensure that we are adequately prepared for the growth that we expect to achieve in the next fiscal year.

We continue to make investments in our people, systems, and processes to ensure that we will appropriately manage our risk, and remain on sound footing as we enjoy the continued success that what believe is the right business banking model for the future.

Now I will turn the call over to Andy who will provide additional details on our financial results.

Andy Micheletti

Thanks, Greg. First, I wanted to note that in addition to our press release, our 10-Q was filed with the SEC today and is online through Edgar or through our website bofiholding.com.

Second, I will discuss our quarterly results on a year-over-year basis meaning fiscal 2014 versus fiscal 2013 as well as this quarter ended September 30, 2013 versus the fourth quarter ended June 30, 2013. For the quarter ended September 30, 2013, net income totaled $12,182,000 up 35.5% from the first quarter of fiscal 2013.

Diluted earnings per share was $0.85 per share this quarter up $0.18 or 26.9% compared to the first quarter of fiscal 2013.

Net income increased 9.4% compared to the fourth quarter ended June 30, 2013. Excluding the after-tax impact of gains and losses associated with our securities portfolio, core earnings were $12, 25,000 for the quarter ended September 30, 2013, up 31.4% year-over-year from the $9,150,000 of core earnings for the first quarter of fiscal 2013 and about flat with the $12, 46,000 in core earnings for the last quarter ended June 30, 2013.

Net interest income increased $5,625,000 during the first quarter ended September 30, 2013, compared to the first quarter of fiscal 2013 and increased $105,000 compared to the fourth quarter ended June 30, 2013. This was a result of increases in average interest earning assets in the average interest-bearing liabilities as well as a decrease in the cost of funds.

The net interest margin was 3.86% this quarter, compared to 3.70% in the first quarter of fiscal 2013. The cost of funds decreased to 1.26%, down 26 basis points over the first quarter of fiscal 2013 and down 4 basis points compared to the quarter ended June 30, 2013.

Provisions for loan losses were $500,000 this quarter, compared to $2,550,000 for the first quarter of last fiscal year and compared to $1,500,000 for the fourth quarter ended June 30, 2013. The decrease was the result of significantly lower charge-offs which decreased by approximately $1.9 million this quarter compared to the first quarter of fiscal 2013.

The benefit of the decrease in charge-offs, was partially offset by additional provisions needed for growth in the loan portfolio. Non-interest income for the first quarter of fiscal 2014 was $6,976,000 compared to $6,761,000 in the first quarter of fiscal 2013 and compared to $7,866,000 for the fourth quarter ended June 30, 2013.

The decline from the fourth quarter was primarily the result of declines in mortgage banking revenue. This decline in mortgage banking revenue was primarily offset by sales of structured settlements.

Non-interest expense or operating cost for the first quarter ended September 30 2013 was $14,514,000 compared to $11,532, 000 in operating costs in the first quarter of fiscal 2013 and compared to $15,353,000 in operating costs for the fourth quarter of 2013.

For the quarter and prior period of fiscal 2013, our recent compensation was up $1,413,000 related to additional staffing added since September 30 2012 and an increase in professional services of $762,000 data processing and internet expenses increased $614,000 and depreciation and amortization expense increased $384,000.

These increases are primarily due to growth of the bank’s lending and deposit operations. Our efficiency ratio was 41.37% for the first quarter of fiscal 2014 compared to 39.43% in the first quarter of fiscal 2013 and compared to 42.8% for the fourth quarter of fiscal 2014.

The efficiency ratio is calculated by dividing our operating expenses by the sum of our net interest income, and our non-interest income. Shifting to the balance sheet, our total assets increased $193.4 million or 6.3% to $3.2 billion as of September 30 2013 up from $3.91 million at June 30, 2013.

The increase in total assets was primarily due to an increase of $176.1 million in loans held for investment. Total liabilities increased by a total of $179.1 million primarily due to an increase in deposits of $101 million in addition to an increase in borrowings of $65.6 million. Stockholders’ equity increased by 14.4 million or 5.4% to $282.6 million at September 30 2013 up from $268.3 million at June 30, 2013.

The increase was primarily the result of our net income for the three months ended September 30 2013 which was $12.2 million as well as vesting and issuance of RSUs, and exercise of options, which increased equity $1.6 million as well as a $0.8 million unrealized gain in other comprehensive income.

At September 30, 2013 our Tier-1 core capital ratio for the bank was 8.5% with $115.4 million of capital in excess of the regulatory definition of well-capitalized. With that, I will turn the call back over Greg.

Gregory Garrabrants

Thanks Andy. Operator, if you would open the call for questions, we’ll take questions now.

Question-and-Answer Session

Operator

(Operator Instructions) We’ll take our first question from Hugh Miller with Sidoti.

Hugh Miller – Sidoti & Company

Hi, good afternoon. Thank you for taking my questions.

Gregory Garrabrants

Hi, Hugh. How are you?

Hugh Miller – Sidoti & Company

Good, good. Yes, little tired from early plane ride. Just, I guess, I wanted to start off I guess, with a question from the prepaid sponsorship programs. It seems like from the language in the press release where you guys talk about the exciting pipeline of stuff that is either under contract or is at discussions, is that’s – the way I'm reading that is kind of that, aside from the things that have already been announced, that you potentially have something that it is under contract that is yet to be announced on that program. Is that correct?

Gregory Garrabrants

Yes, that’s correct. We have several programs, one particularly large one with a one of the biggest payroll card providers that we are in the process of implementing now. We haven’t seen any fees from that yet. I think that. I think that it’s likely – we could see some fees in the second quarter from it of the fiscal year, but more likely would be in the third quarter of this fiscal year.

And then, we have advanced discussions with some very attractive large programs where contracts are popping back and forth and we’ll see how that goes, but those are – they take a while to get done and they take a while to board and there is integrations, technological and a lot of policy and procedure type work that has to go along with each one.

But the good part about those relationships that they tend to be sticky there. They are good for both the fee and deposit income and we are getting good traction with very brand name programs. I am not prepared to tell you specifically which ones those are, but from a – for competitive reasons, but yes, your basic assertion is correct.

Hugh Miller – Sidoti & Company

Okay, and as I think about kind of the cost involved with that, from what I understand is a high level of fixed costs and so as you win these awards to – the variable costs that are associated with that should be more modest. Is that correct?

Gregory Garrabrants

I agree with that, completely, yes. I mean, although, there is – the level of regulatory expectation surrounding those programs has definitely increased, but nevertheless there is a – we still, that’s still very much an incubator business for us and we are investing a lot in the infrastructure side and so the contribution margin from those should be very good.

Hugh Miller – Sidoti & Company

Yes, and I understand that the H&R Block sponsorship program is kind of back in play for people to kind of go after and bid on. Obviously, I'm not looking for color on that. But with that particular transaction, if that were to be awarded to you at some point, is that more of a benefit for the 2015 tax filing season? Or would there be any potential benefit in calendar 2014?

Gregory Garrabrants

I don’t think it would be appropriate to comment on particular programs or program names or those sorts of things or speculate about impacts of things like that.

Hugh Miller – Sidoti & Company

Okay, I understand. Looking at kind of the loan situation, with the information you gave us on the pipeline it looks like there was a tremendous jump in the jumbo loan pipeline relative to the figures you guys gave as of July 25. Can you just provide us an insight with what you are kind of seeing with that particular product and how the competitive landscape is shaping up?

Gregory Garrabrants

Yes, you are correct about that. The way the competitive landscape is really shaping up is that, the securitization market for a 30-year fixed rate jumbos although there is a recent article that one came out or whatever, it’s effectively dead. The industry is in near, I think it’s having a very hard time trying to figure out what to do with the QM rules and understand how to deal with that issue.

The QM rules are – for those of you who aren’t that familiar with them, they basically have taken FHA guidelines which were designed for – I think very standard type of borrowers generally, borrowers that had very high loan to value ratios, but very fixed situations and rigid income structure.

So, to people working at a company with some small bonuses and really no capital gains or other investment income, and so people are really trying to figure out how to apply those to jumbo loans. We think we’ve done that. The other thing is that, we just gotten so much better from a data perspective with a lot of operational improvements that we’ve made.

We’ve been able to get our products on the dashboards of such a greater number of loan officers and customers and the customer base just continues to expand there and our reputation continues to grow and the folks that are running that business have done a really good job of getting our name out.

So, this is really just, it’s a lot of blocking and tackling about getting better expanding the sales force. The other thing that they’ve done is we have an outside sales force they’ve also started an inside sales force with a very – I’d say rigid protocol around follow-ups contacts based on a CRM system that's linked to some data initiatives that we are doing and things like that and so, it’s a market that’s very good. But also the execution around to bringing in the deals has been good too.

Hugh Miller – Sidoti & Company

It's lending, we are really more about relaxing the credit standards, and kind of a creeping back of the 5% loan-to-value lending, can you talk about what you are seeing there? And how that could play a factor in your ability to kind of continue to originate in that category?

Gregory Garrabrants

Yes, I don’t see anything of that kind at all, in fact, actually what happened now with regard to these rules has some significant benefits to us and one disadvantage, but I don’t like, but in general, they are very good. And so what happens is that, is on January 1, these rules the ATR rules, they basically, there is ATR rule and QM rules and it basically goes through and so as we can make no dock loans anymore.

If you make interest-only loans, there is a variety of issues that can arise and those sorts of things, but they – and effectively, what they’ve done is they’ve – in my opinion, they’ve solidified our ability to continue to do the prudent originations that we have and not allowed other institutions to come in and basically mess up this business by sort of raising to the bottom on credit.

Because you can’t anymore do a – it is a legal amount to do a stated income loan. It doesn’t matter if the loan is 30% loan to value ratio, you can’t do it. And we never did that. We’ve always done full documentation loans. I don’t believe in low documentation and no documentation loans. From my perspective, I want to see everything. If we are making a judgment on a trade-off about a particular aspect or something, that’s fine.

We can do that with a holistic picture and how that picture documented. So, I don’t think it’s that way at all. In fact, I think actually what’s happening is that, the securitization market is still very tight. So those loans have to come through very clean. They are unable to digest any sort of differences that would arise or any sort of complexity related to any borrower situation and so, that.

It’s actually the opposite. It’s actually making balance sheet lending in the single-family mortgage arena. I think it’s the best time, in a long time. And then you couple that with a reduction in loan limit potentials and a variety of other factors that are out and we feel really very good about that business.

Hugh Miller – Sidoti & Company

Okay, that’s very helpful.

Gregory Garrabrants

The one thing that’s not great is they effectively been prepayment penalties and that – we’d have a prepayment penalty on everything. They are also one year stuff, it’s not the end of the world, but it’s sort of an intrusion that makes no sense. It’s done clearly by a person who didn’t understand option theory, right.

So, you end up having a little bit more harder time dealing with some of the optionality on some of the portfolio, because you don’t have a pre-type. We only had once for a year though.

Hugh Miller – Sidoti & Company

Okay, I guess prepayment penalties are heading into the rising rate environment shouldn't be the worst thing in the world losing. But the other question I had was with regards to – it seem to be a bit of a disparity on the end of period versus the average loan sequential growth, where it’s more modest on the average balance sheet relative to the end of period.

And was there anything in particular that was happening during the quarter where origination is a little bit more back-end loaded, or were some of the loan sales you were doing were front-end loaded?

Gregory Garrabrants

I think that there was some of that – some of the latter, but the biggest aspect was that, we really – we had a number of initiatives that we are putting in place that were really coming into bear around the June timeframe. As those initiatives are coming forward, the pipelines were building, particularly in businesses like multi-family that have a long pipeline.

So the tendency is that you get significant lag. So we ended up and in the C&I business is also growing rapidly as well. So their growth just wasn’t steady throughout the quarter and ended up coming in mostly at the end. I think the good part of that is, it really loads interest income for the next quarter, because it’s a significant difference between the average balance and the ending balance which is going to allow us to really have a nice pop in interest income for the next quarter.

Hugh Miller – Sidoti & Company

Right, okay. Thank you very much, very helpful.

Operator

We will go next to Andrew Liesch with Sandler O'Neill & Partners

Andrew Liesch – Sandler O'Neill & Partners

Hi, guys.

Gregory Garrabrants

Hey Andrew.

Andy Micheletti

Hey Andrew.

Andrew Liesch – Sandler O'Neill & Partners

So, looking at prepaid debit card fees. It looked like they were $830,000 in the last quarter, $600,000 this quarter. Is there any seasonality with the payroll cards?

Gregory Garrabrants

Yes, there is some seasonality and then there is some movement there. It really is just some variations in that activity. But, again, there is going to be some movement there. There is a great pipeline, but, we just have to get those deals on board and get them going.

Andrew Liesch – Sandler O'Neill & Partners

Okay, and then, just other parts of that making service fees on other lines. I mean, it looks like it was down a total of $1.2 million or so. So would that mean that other C&I fees and things like that – other like C&I loan fees those were down as well so it seems like a pretty steep drop?

Gregory Garrabrants

Yes, those were basically related to some fairly large prepayment penalties that we had or fees that we are able to book in the prior quarter related to some of the C&I lending. So that was related to those. The credits tend to be large and in some cases, some of the credits are warehouse lines to the extent that somebody is able to or desires to repay those sometimes it triggers decent size prepayment penalty fees.

We are collecting a lot of fee, but obviously when we are collecting our upfront fees we are amortizing it over the life of the loan so we are not taking that in the right way. So generally the type of fees you see there would be in prepayment.

Andrew Liesch – Sandler O'Neill & Partners

Okay. Flipping to that loan sales side, so it looks like the sales of – I guess, gain on sales of all three types declined pretty significantly this quarter. But I'm curious, did the jumbo and the multi-family sales, is that driven the ability to sell them in the market, demand in the market or is it just your decision to keep on the portfolio like those two portfolios for those two portfolios of loans?

Gregory Garrabrants

No, it’s definitely not driven by the market demand. There is very robust market demand for the loans at very good premiums and these are just decisions that we make and we look at a variety of factors. We look at geographic and credit concentrations. We look at interest rate risk profiles.

And we look at capital needs and aside whether we’d like to generate the capital organically through earnings whether we – and how we are bouncing at individual portfolios. So, it’s really, those are really those decisions that we make.

Andrew Liesch – Sandler O'Neill & Partners

Okay and then on the agencies side, it seems like that dropped a lot as well from – maybe I think it was $3.2 million in the prior quarter. Are volumes – I imagine it's mostly refi, but are these volumes from Costco really drying up and how is that coming into the winter months?

Gregory Garrabrants

Yes, what happens with agency volume is that, the pipeline is marked at the end of the quarter. So even if you are originating a decent bid and then you look at what the origination revenue would be, that revenue was pulled forward by what the pipeline by marking the pipeline to market in the prior quarter.

So, even if you have it an okay origination, which I thought originations were obviously like the rest of the industry, they weren’t very good. But, what happens in that quarter is, once it stabilizes where you have a mark on that pipeline. As long as that pipeline stays steady, want to stay it was at $70 million at the end of the quarter and it stayed with $70 million.

You won't be able to get the revenue generated from that entire amount of originations that occurred, assuming originations of loans that are sold or equal because the pipelines at the end of the quarters is same. When you have a pipeline decrease is what we had this quarter, you don’t get the origination revenue that you otherwise would have had, because you have to offset that origination revenue by the decrease in the pipeline.

So the nature of that way that those are accounted for, generated the result. So we will see stabilization there. That business is really – I wouldn’t expect it to be great on next quarter. We have some very interesting things we are working on that are potentially very significant there related to some partnerships that we think would drive a lot of volume.

But I am not sure that those would be in place. I think it’s relatively certain that they wouldn’t be in place for this current quarter, the second quarter of the fiscal year. So, yes, it was – the other element that, we are looking at is, what’s happening in the industry right now is an adjustment process that usually occur.

And what happens is, the weaker competitors price themselves to the point where they are almost pricing the loans at losses and they are also engaging in marketing spending and other activities that to sustain themselves and so, what happens is that profitability in the industry gets pretty low for a while and we are kind of going to do that now and capacity is exiting quite a bit.

And so I expect that that will get better as we speak. But we are also not – I’ve directed the gentleman who runs that group. I don’t really want to chase a business for business’s sake. We have only so many people and frankly, as we look at our business lines and the ability to grow and grow infrastructure appropriately when there is other more profitable things to do, I want to do that.

That group will stay and I think we’ll be able to get it moving forward, but I don’t think this quarter or the second quarter is going to be that great either. But I think the thing to consider is that, as I said in my prepared remarks, we make 100 more basis points selling a multi-family loan, maybe little bit more than we do on an agency loan.

And so, if you look at the increase in multi-family production from June to September, and then you – I’ll say – as we say we decided to sell that. It’s much more profitable for us than having that agency mortgage banking volume there. Now, look, I’d obviously like to have that back because they would have been able to grow earnings, instead of 35% it would have been 55%, but that’s a something we’ll have to go through and then we are going to way through this in the next couple quarters.

Andrew Liesch – Sandler O'Neill & Partners

Right. Thank you, Greg. That's very helpful.

Gregory Garrabrants

Sure.

Operator

We’ll go next to Julianna Balicka with KBW.

Julianna Balicka – KBW

Good afternoon.

Gregory Garrabrants

Hi, Juliana. Hi, how are you?

Andy Micheletti

Hi.

Julianna Balicka – KBW

Hi, how are you?

Gregory Garrabrants

Good.

Julianna Balicka – KBW

I have a couple more questions. There has been some good ones already asked. But, in terms of the structured settlement loan sales, could you kind of talk – that was at the last quarter as a sale mechanism and then been ramped up this quarter clearly. Could you talk about the run rate you are thinking about how much more gains you have left? And what you have on your books right now or how much are you originating to refresh that pipeline?

Gregory Garrabrants

Sure, so over – in the fourth quarter, we originated $19 million and sold $3.8 million. This quarter we originated $16 million and sold $23 million. The – we decided to spend – when we are looking at our interest rate risk, one of the things that the structured settlements do, is they do increase interest rate risk, because, they tend to be the longest duration asset we have.

So, we really didn’t want to lock long borrowings in the quarter based on where rates were and we felt comfortable that they were come in a little bit. So, the decision on whether of what assets we decide to monetize in any one quarter. As I said, a decision that is something that we make looking at a variety of factors.

So, we sold a little bit more than we originated in this quarter, but not much and we didn’t sell, really much multi-family and that was a decision I just made based on credit concentrations and those sorts of things.

So, what the math is, we look at that on a regular basis and can adjust it. But, if we – the short answer that we wanted to generate steadily forever $2.5 million of gains in structured settlements it wouldn’t be a problem. So, I don’t know we are going to do that that just, we look at these things on a regular basis and from a variety of factors.

Julianna Balicka – KBW

So, between the different kind of loans that you could monetize in any given quarter and it’s not the various factors that you are thinking about, I guess, just kind of thinking about a run rate of $2 million to $3 million in gains from some kind of loan sales would be a reasonable expectations?

Gregory Garrabrants

Yes, I think that that's a reasonable expectation. And you know one of the things, one of the issues that are really positive is that, obviously the size of the jumbo pipeline right now, we need to continue to look at that and look at our concentrations there as well. I don’t want to get ahead of ourselves.

We generally feel very good about the credit quality of our jumbo loans, but that pipeline is, sort of $0.5 billion. So, that's also something we have to think about too. There is, yes, obviously, there is three legs to the stool in banking and deposits and loans and all of this going to come along together. So, there is – those aspects of thinking about just size of balance sheet and those sorts of things.

Julianna Balicka – KBW

And then in terms of your loan-to-deposit ratio and just the loan-to-deposit balance (inaudible) it’s starting to creep up a little bit. So, how are you thinking about that given your strong loan growth trajectories and some of the deposit initiatives that you have in the pipeline? Is there a trigger point where it gets a little too high or how are you managing that?

Gregory Garrabrants

Well, we don’t particularly target a loan-to-deposit ratio. What we do is we, obviously have to worry about interest rate risk and liquidity. And that is determined in a number of different ways, obviously the interest rate risk we continue to look at that and we can obviously utilize deposits in order to lower interest rate risk if those deposits have the right characteristics.

But, we also think that, the utilization of long-term borrowing is also a very appropriate way to fund loans. Given that the loans that we originate are available for FHLB borrowing. But that being said, obviously, it’s a balance and we have to continue to ensure that we raise the appropriate deposits in order to continue to grow the balance sheet.

So it’s going to be a little bit of both, but, I am not a fan of the loans, deposits and securities to borrowing, because, there is all sorts of things that you can do in there that don’t make those ratios makes sense. So, we look – as I said- we look at the liquidity aspects of what we are doing and we also look at the interest rate risk and that’s how we manage that.

Julianna Balicka – KBW

So, from the way that you look at it, from where you stand right now, kind of thinking about your loan growth rate going forward it’s an 8% linked quarter on an annualized, could that then continue at the current pace? Or are you going to have to do something to decelerate it and/or change some other aspect like on the liability side or at this point in time…

Gregory Garrabrants

Well, I think the 25% and 30% loan growth rate is highly sustainable from a deposit structure perspective and we feel comfortable we can do that. I mean, quite candidly, what we’ve been trying to do is, to dramatically improve our deposit mix and I think we’ve done a really good job with that.

We, obviously have the ability to raise deposits essentially it will. I think the question is, then you have to convert and take those deposits and create the deposit characteristics that you would like to have there. And so, when I look at – where we are from a business bagging perspective and a rapid growth, I feel really good about that and I feel really good about what we are doing on the checking side.

But we have some interesting initiatives that can enhance deposits and I’d like to make sure that those are fully played out. I think the typical high yield savings strategy is a highly effective one, one that we know how to do well and certainly, given our loan rates, we can maintain our net interest margin effectively utilizing a high yield savings and CD strategy.

But, I am continually working to do that less. Now, I don’t think it’s that if we do and if you look at the Hudson Cities and those sorts of things, they’ve been very effective at that. I just don’t really think consumer CDs are attractive in comparison with wholesale CDs, because the wholesales CDs have no ability to be broken.

They provide better interest rate characteristics and they are lower yields in general. So, we basically stayed away from the funding strategy of utilizing high yield savings accounts and CDs and grown our deposits focusing very much on transactional accounts.

Now and that’s resulted in dramatic shift in the mix. At some point, we may use some of those techniques to raise deposits and I don’t think there is anything wrong with it. We can do it in a safe and sound manner. But, we definitely have the ability to do it

Julianna Balicka – KBW

Understood and then in terms of the remix that we saw this quarter, there was a nice decline in the jumbos, is there any other upcoming maturities in your CD book that we can think about as potentially, intentionally running off in the near term?

Gregory Garrabrants

Well we do have – well, I’ll let Andy – that with CDs. We did have a very nice, was it $30 million of that repo go rate?

Andy Micheletti

Yes, when you look forward next 12 months, we’ve got 75 million of the Repo running off at a rate of 4.23%. So, that – we are finally at the end of those long duration borrowings. But, again, $75 million added to Repo line, again this is Repo, not CD, but nonetheless, it’s obviously very, very strong.

Gregory Garrabrants

Right, yes, that was 4 something percent rates. Andy, as I said, I don’t know if I said this, if you remember, Andy’s goal is to have to his career outlived those borrowings. And some all intents and purposes, it appears that actually is going to occur. Nobody laughs to my jokes. But it’s really good, right, it’s obviously it’s a $75 million at 4 something percent is nice to get to get rid of, right.

Julianna Balicka – KBW

Very good. And then switching gears just for a second and then I'll step back. In terms of the cost management initiatives you referenced in your prepared remarks, the benefit was already seen. Is there any more legs to that benefit that we can think about for the next couple quarters?

Gregory Garrabrants

Yes, I think so, yes absolutely, but I would say that more broadly what the benefit of the structure that we created there is that, we can manage our growth in a manner that will allow us to invest in the right things in the right way. And so, whenever you grow, obviously there is elements of that growth.

Sometimes that are – sometimes small, sometimes larger that you need to ensure you have the appropriate controls around. So, the profits that we set out, with a very strong vendor management system which is something that the regulators are very keen on, but also, has a great ability to be utilized to reduce cost a specific method of negotiating with vendors, a very clear lines of accountability for P&Ls through dash boarding.

And then through regular reviews of those expenses and processes making them transparent and then, going through the negotiation processes with vendors. I think is really is good business practice and I would say, we were a little bit sloppy, because I think we did better – we still we are doing better than most, but we are really trying to raise that to a world-class level.

So we can continue to grow and do it effectively and not waste money. So, I do think that, there will be benefits that you will continue to see, whether or not we'll see declines in non-interest expense quarter-over-quarter when we are growing at a 25%, 30% growth rate, I can’t, I don’t know if that’s going to be the case.

But, what you will have is hopefully, the ultimate goal right, is to bend that curve down and to get a declining efficiency ratio and also really to make sure that there is so many opportunities out there and they are so big and they are so important.

And sometimes you have to make sure that, you don’t skimp on people who can go get those opportunities or people who can ensure that you maintain good regulatory relations as well. So we just want to spend money on the right stuff and that helps us do that.

Julianna Balicka – KBW

Very good. Well, thank you very much for taking my questions.

Gregory Garrabrants

Thank you.

Operator

(Operator Instructions) We’ll go next to Jim Fowler with Harvest Capital.

Jim Fowler – Harvest Capital

Hello, Greg, how are you?

Gregory Garrabrants

Hey, Jim How are you doing?

Jim Fowler – Harvest Capital

Doing well. Thank you. I have just a couple of details. I'm sorry if you might have mentioned this – jumping between a couple of calls. The agency mortgage rate to borrowers that's pretty observable, but the jumbo rate is not. Any sense of where you are pricing jumbo, your jumbo hybrid versus an agency habit please?

Gregory Garrabrants

Yes, our jumbo pricing on our net loan rates tend to be in the mid-four to the low-five ranges on super jumbos. And it depends, there is – it’s a fairly complex rate sheet. But it’s a definite – there is rates in the threes for purchased business below certain loan to value ratios and then there is rates in the fives, four, for certain types of borrows and those sorts of things. So there is risk-based pricing that’s utilized in that line of business.

Jim Fowler – Harvest Capital

And as you think about it, and then you can circle back, but as you think about it for this upcoming quarter and the pipeline, I mean is there a number, sort of a weighted average coupon or a mortgage rate you might have us think about for modeling purposes?

Gregory Garrabrants

Yes, I think I got 4.75-ish or maybe even a little bit higher than that that sort of range. But that’s conservative.

Jim Fowler – Harvest Capital

Yes, that's perfectly fine. I wanted to ask you a real quick question on the structured settlements. So, I am just doing the math. It looks like the fourth quarter premium was about 22 points. The first quarter was about 13 points. Is there anything between those two sales, the amounts that sold in each quarter that's different?

It looks like if I just do bond math, it's kind of a mid-teens coupon you're selling, but I can't tell between, because of the difference – there is such a large difference in the premium between the two quarters.

Gregory Garrabrants

Yes, well, one of the differences is, we sold some pretty long duration and we had a small amount, so we are able to basically, the fourth quarter was to really to push a long duration asset out, that was the goal we had some deals that we did that were pretty far out and so, when you do a little bit bigger sale, you are going to get a bigger math. And so the weighted average life is going to be different. And then also there is – so that's one difference.

The other different was that, the actual rate on the sale – the coupon rate that we are originating really isn’t that sensitive to the underlying market rate and in fact, I’d say it would be not bold to say it’s insensitive to that market rate. But yet the premium isn’t insensitive to that market rate. So the date of the sale the market had moved from a bench mark rate perspective and that’s part of the difference as well. And those differences account for the difference in our premium.

Jim Fowler – Harvest Capital

Fair enough. And this has been a two quarter program, I mean, to-date so far. So if I just look at the difference between what you bought, what you originated and what you sold in these past few quarters, the difference will be what remains in the portfolio to be sold?

Gregory Garrabrants

Oh no, oh, no, no, no – no we have …

Andy Micheletti

Total of $91 million.

Gregory Garrabrants

$91 million.

Andy Micheletti

At the end of September.

Gregory Garrabrants

Yes, we’ve been, this is an asset class we’ve been in now for six years and we like it because it’s super save and we like the duration generally, but, and we’ve also – with the call to hold this, although we fund it with matched borrowings generally has been right, but at some point, obviously, rate movements do create sensitivity there.

So we just need to think about bouncing it out and that was what I was talking about from an interest rate risk perspective. Whether you – because the weighted average life is there more like ten years and weighted average life on multi-family hybrids are in the three range. So it’s just a very different decision when you are thinking about your portfolio risks and how you are going to deal with each of those asset classes.

Jim Fowler – Harvest Capital

Perfect and last question, if I might. You mentioned under QM you can't get prepayment penalties, and no one can get prepayment penalties on residential. I'm assuming you can still get prepayment penalties under your multi-family?

Gregory Garrabrants

Oh, yes, absolutely. And that’s actually essential characteristic of why we can sell those loans in the 104 plus range and there is no regulation there. It’s a purely single-family regulation as you stated.

Jim Fowler – Harvest Capital

Good, enjoy your evening with the group, and good meeting.

Jim Fowler – Harvest Capital

Thanks, Jim.

Andy Micheletti

Thanks, nice.

Operator

And at this time, we have no other questions.

Gregory Garrabrants

Okay, well great. Well, thank you very much and I appreciate the time and we will talk to you on next quarter. Thank you.

Operator

This does conclude the conference. We thank you for your participation.

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