People's United Financial's (PBCT) CEO John Barnes on Q2 2014 Results - Earnings Call Transcript

Jul.17.14 | About: People's United (PBCT)

People's United Financial, Inc. (NASDAQ:PBCT)

Q2 2014 Earnings Conference Call

July 17, 2014 5:00 p.m. ET

Executives

John Barnes – President & Chief Executive Officer

Kirk Walters – Chief Financial Officer

David Rosato – Senior Vice President & Treasurer

Jeffrey Hoyt – Senior Vice President & Controller

Peter Goulding – Senior Vice President of Corporate Development & Investor Relations

Analysts

Timur Braziler – Deutsche Bank

David Darst – Guggenheim Securities

Collyn Gilbert – Keefe, Bruyette & Woods

Robert Ramsey - FBR Capital Markets

Matthew Kelley –Sterne, Agee & Leach

Ken Zerbe – Morgan Stanley

Casey Haire – Jefferies

Tom Alonso - Macquarie

John Pancari - Evercore Partners

Mark Fitzgibbon - Sandler O'Neill and Partners

Operator

Good day, ladies and gentlemen, and welcome to the People's United Financial Incorporated second-quarter earnings conference call. My name is Patrick, and I will be your coordinator for today. (Operator Instructions) As a reminder, this conference is being recorded for replay purposes.

I would now like to turn the presentation over to Mr. Peter Goulding, Senior Vice President of Corporate Development and Investor Relations for People's United Financial Incorporated. Please proceed, sir.

Peter Goulding

Good afternoon and thank you for joining us today. Jack Barnes; Kirk Walters; David Rosato; and Jeff Hoyt are here with me to review our second quarter results. Please remember to refer to our forward-looking statements on Slide 1 of this presentation, which is posted on our website, peoples.com, under Investor Relations.

With that, I'll turn the call over to Jack.

John Barnes

Thank you, Peter. Good afternoon, everyone. We appreciate your joining us today. Consistent with past earnings discussions, I’d like to begin by sharing my views of our current strategic positioning. We continue to focus on building this franchise for the long term, driving revenue growth while tightly managing expenses. To accomplish this, our seasoned bankers are leveraging People's United well regarded brand to form new relationships and deepen existing relationship.

This quarter’s results reflect the benefits of investments we continue to make in people, products and services, as well as our expanded geographic footprint. We also continue to evaluate the best ways to serve our customers and grow our businesses, as evidenced by the recently announced Merchant Services joint venture. In that case, Vantiv will bring their substantial payment processing infrastructure and history of payment of payment processing innovation to help us better serve our customers. Further, we are pleased with our ability to control operating expenses, especially given the number of strategic investments we have made and the increasing cost of regulatory compliance.

Now I would like to discuss our second quarter results. On Slide 2, operating earnings were $59.9 million or $0.20 per share while net income was $72.3 million or $0.24 per share. Net interest income on a fully taxable equivalent basis increased to $232.8 million, which represents 2% annualized growth during the quarter. The net interest margin declined by 4 basis points to 3.13% compared to 3.17% in the first quarter of 2014.

End of period loans grew at a 13% annualized rate in the second quarter. This marks our 15th consecutive quarter of loan growth and is a testament to both our relationship managers and our customers. Our growth is founded on customer relationships which have expanded as we have added talent, product capabilities and deepened our presence in the large markets of Metro New York and Greater Boston. Further, our commercial pipelines remain strong and runoff in the acquired portfolios continues to occur at a slower rate as we predicted in January.

Total deposits grew at a 7% annualized rate which was largely attributable to a $665 million increase in broker deposits. As we have noted in the past, our municipal business tends to be seasonally lower in the second quarter as fiscal year end activity negatively impacts deposit balances. The actual business fundamentals within this customer base remains strong. This decline is merely a timing issue. We continue to emphasize deposit gathering consistent with our long held preference for relationship based banking on both sides of the balance sheet.

Non-interest income, excluding the $20.6 million gain from the Merchant Services joint venture, was in line with the first quarter at $79.5 million. We will discuss the Merchant Services joint venture further in the coming slides.

Operating expenses decreased $4.8 million to $206.7 million as a result of disciplined expense control. The efficiency ratio for the quarter improved to 61.8% from 63.9% in the first quarter of 2014, primarily due to both revenue expansion and careful expense management. As we continue to grow both in that interest income and fee income while controlling expenses, we anticipate efficiency ratio progress in the quarters ahead.

Asset quality remains strong with net charge offs of 10 basis points and non-performers at 96 basis points, the lowest levels we have experienced in six years and well below the industry medium. As mentioned before, we firmly believe that sound underwriting is the only way to confidently grow the balance sheet.

Capital ratios remain strong, especially in light of our relatively low risk business model. During the second quarter we strengthened total risk based capital levels via a $400 million issuance of 10 year bank level subordinated notes.

With that I’ll pass it to Kirk and David to discuss the quarter in more detail, first Kirk.

Kirk Walters

Thank you, Jack. On Slide 3 we provide detail behind the linked quarter change and net interest income on a fully taxable equivalent basis. Runoff in the acquired loans portfolio resulted in declines and accretion of $1.6 million. Lower average balances in the securities portfolio relative to the first quarter negatively impacted net interest income by $1 million. This was offset by strong originative loan growth and one more calendar day in the second quarter which positively impact net interest income by $1.8 million and $1.7 million respectively. As we have mentioned before, growth in net interest income from the originative portfolio outpacing loss accretion on the acquired portfolio, is a positive sign for the quarters ahead.

On Slide 4, you can see a breakdown of the elements contributing to our quarterly net interest margin results. New loan volume negatively impacted the margin by seven basis points as new business yields remained lower than the total loan portfolio yield. Lower average securities balances pressured the margin by one basis point. An additional calendar day in the quarter and improved loan mix positively impacted the margin by three basis points and one basis point respectively.

With that, I’ll pass it to David to discuss our recent loan and deposit activity.

David Rosato

Thank you, Kirk. Slide 5 provides a breakdown of the elements contributing to our net increase in loans. The loan portfolio grew $826 million or 13% annualized. This was achieved through leveraging our expanded footprint as well as progress in our heritage markets and strengthened product lineup. Originated loan growth for the quarter totaled $959 million. As in prior quarters, growth came from a variety of products and geographic areas. Commercial real estate contributed $264 million of the total originated loan growth, while C&I contributed $617 million. Within C&I, we saw strength across many categories, including traditional C&I, People’s United Equipment finance and mortgage warehouse lending. The commercial portfolio remains broadly diversified with respect to loan type, geography and industry.

Residential mortgages contributed $58 million of originated loan growth in the second quarter. Approximately 91% of the residential mortgage originations added to the portfolio were hybrid-adjustable rate mortgages. The consumer portfolio contributed $20 million to originated loan growth, which was driven by higher home equity advances in the second quarter. It is important to note that 100% of home equity loans are retail originated with approximately 65% of second quarter originations in a first lien position, which is slightly above the range we have experienced over the past three years.

We experienced acquired loan runoff of $133 million this quarter compared to $114 million in the first quarter and $201 million in the second quarter of 2013. We anticipate runoff in all of our loan portfolios, including our acquired loan portfolio, to remain at low levels. Slower runoff is expected to contribute to continued healthy loan growth.

You can see on Slide 6 a breakdown of the elements contributing to our net increase in deposits. Total deposits increased $423 million supported by broker deposit growth of $665 million, of which approximately 80% were money market deposits. More importantly, we experienced annualized organic non-interest bearing and savings deposit growth of 13% and 4% respectively. We also experienced a 14% annualized decline in organic time deposits, which combined with strong organic demand deposit growth, will help improve deposit costs going forward. As referenced earlier, the seasonality in our municipal business had a negative $180 million impact on commercial deposits in the second quarter, and accounted for the majority of the decline in organic deposits.

We believe we’re underway commercial deposits and continue to make changes to further emphasize deposit gathering. This quarter, we saw an improvement in commercial deposit mix, with commercial non-interest bearing deposits increasing $203 million to $3.2 billion. We firmly believe that deposits are an important part of the customer relationship, and our ongoing focus remains on growing organic deposits and improving the deposit mix.

Now, I'll pass it back to Kirk.

Kirk Walters

Thank you, David. On slide 7, we take a closer look at non-interest income, which excluding the Margin Services joint venture gain, remained in line with the first quarter. Bank service charges increased $2.3 million, which was mostly driven by higher cash management and commercial services fees. Investment management fees and customer interest rate swap income each added $800,000 to fee income this quarter. Operating lease income declined $1.4 million due to higher levels of payoffs, while commercial bank and lending fees also fell $1.4 million.

Insurance income decline $900,000 due to the seasonal nature of insurance renewals, which typically take place in the first and third quarters. Gain on residential mortgage sales declined $800,000. Lastly is we’re spending some time discussing the recently formed Merchant Services joint venture, which positively impacted non-interest income by $20.6 million. The new venture, People’s United Merchant Services, will offer customers a comprehensive suite of payment solutions by combining People’s United’s strong reputation and broad access to commercial merchants with Vantiv’s deep payment expertise, innovative products, security tools and processing scale. To establish a solid foundation for the joint venture’s success, both companies have contributed merchant accounts to the new entity, including the entire People’s United merchant portfolio. People’s United retained a 49% minority interest in the venture.

On Slide 8, we illustrate the keys components of our changes in non-interest expense. As we have mentioned before, we continue to control expense tightly while investing in revenue producing initiatives and covering the higher cost of compliance. Non-operating expenses decreased $3.6 million, which is mainly attributable to branch closure accruals and higher severance related expenses that occurred in the first quarter. From an operating expense perspective, operating lease expenses decreased $2.4 million, which is partially attributable to accelerated depreciation on a single a relationship in the first quarter. Comp and benefits decreased $1.8 million due primarily to lower payroll and benefit related cost in the second quarter. Occupancy and equipment costs decreased $1.4 million, mainly as a result of higher weather related charges in the first quarter. The net impact was a $4.8 million decrease in operating expenses for the quarter.

The next slide details our efficiency ratio over the last five quarters. As mentioned earlier, the efficiency ratio improved this quarter as a result of disciplined expense management and revenue expansion. We continue to remain very focused on improving operating leverage.

Slides 10 and 11 are a reminder of our excellent credit quality. Once again we did see an improvement in non-performing assets this quarter from already industry leading levels. Originated nonperforming assets as a percentage of originated loans in REO at 96 basis points remains well below our peer group and 50 banks and are down approximately 30% from 1.33% in the second quarter of 2013. Acquired nonperforming loans are not included in these calculations due to the different accounting model applicable to such loans. However, it is worth noting that we are very pleased with their performances. We have seen these balances decline $41 million or 26% to $118 million in the current quarter from $159 million a year ago.

Looking at slide 11, net charge off continues to remain low at 10 basis points compared to 12 basis points last quarter and 19 basis points one year ago. Excluding acquired loan charge offs, net charge offs this quarter were 9 basis points. These levels reflect the minimal loss content in our nonperforming assets and are well below peers. Over the last four quarters charge offs against specific reserves represent approximately 64% of total charge offs. As such we understand our credit issues well and typically have very few new credit events each quarter.

Now I pass it back to Jack.

John Barnes

Thank you Kirk, slide 12 highlights our ability to grow both sides of the balance sheet. We continue to make progress on the loan and deposit growth on a per share basis while maintaining excellent asset quality. Over the past year, loans per share and deposits per share have grown at a compound annual rate of 17% and 15% respectively.

Operating return on average assets for the second quarter was 72 basis points compared to 69 basis points in the prior quarter. Our return on average assets continues to be impacted by the ultra-low interest rate environment and some recent initiatives which are still ramping up to more normal levels of productivity. Progress will be driven by continued loan and deposit growth, fee income and a continued discipline approach to expenses.

Slide 14 illustrates the improvement in our return on average tangible equity since the second quarter of 2013. We expect to see continued progress on this metric as we improve profitability and thoughtfully deploy capital.

Now I’ll pass it to David to discuss our capital ratios and our interest rate risk profile.

David Rosato

Thank you, Jack. On slide 15 we see that capital levels at the holding company and the bank remained solid with our tangible common equity ratio at 7.9% and our tier 1 common at 10%. Total risk based capital increased to 12.5%, which was driven by the $400 million issuance of 10 year bank level subordinated notes. These notes were sold to yield 4.07% and simultaneously converted via an interest rate swap to a floating three month LIBOR spread of approximately 157 basis points. Additionally, these notes will save approximately $2 million in FDIC insurance costs, which affectively equates to an additional 50 basis points of savings.

Slide 16 illustrates our interest rate risk profile for both parallel rate changes and yield curve twists. As you can see, our asset sensitivity has increased for both parallel shock and yield curve twist scenarios from last quarter, even with the fixed-to-floating conversion of our recently issued subordinated notes. This is primarily due to projected balance sheet growth, a loan mix trending toward floating rate loans as well as a smaller securities portfolio.

Now I’ll pass it back to jack to wrap things up.

John Barnes

Thank you, David. We continue to look for ways to best serve our customers and build relationships, while maintaining tight expense control and returning capital to shareholders. Our commitment to outstanding customer service, combined with our existing and growing set of capabilities, allows us to attract and retain exceptional talent, all of which provides a sustainable competitive advantage.

This concludes our presentation and we’ll be happy to answer any question. Operator, we’ll be glad to take questions.

Question-and-Answer Session

Operator

(Operator instructions) And your first question comes from the line of Dave Rochester with Deutsche Bank. Please proceed.

Timur Braziler – Deutsche Bank

Hi. Good afternoon. It’s actually Timur Braziler filling in for Dave. Just a couple of questions on the lending side. Excellent C&I growth this quarter and I appreciate the breakout by the segments. To be a little bit more specific, was there any particular segment that experienced the brunt of the growth or was it pretty spread out across the different segments?

John Barnes

The C&I portfolio was clearly the segment that grew the most. We made a lot of progress in Massachusetts and our management and growth in commercial line offices were certainly impacted that. We made some nice progress in Maine. We won a number of pieces of new business and that group did a great job. ABL was also part of the growth. And I don’t know that that was in the script, but that was also a piece of steady growth, along with the mortgage warehouse. The equipment finance pieces also were very steady in good growth rates.

Timur Braziler – Deutsche Bank

Okay. And then I guess for the traditional type of C&I lending, was that more on the new growth side or did utilization rates improve as well?

John Barnes

Utilization rates were actually very flat. So it was expanding relationships.

Timur Braziler – Deutsche Bank

Okay, great. And then turning to commercial real-estate, I think I missed the number. But I think originations were somewhere in the $280 million range. Is that correct?

John Barnes

Yeah, 260ish.

Timur Braziler – Deutsche Bank

$260, okay. And then what portion of that $260 was related to multifamily? Or I guess as you call it, New York Commercial Real-estate.

John Barnes

It’s about probably more than half, a little more than half.

Timur Braziler – Deutsche Bank

Okay, great. And then we’ve heard from some others that the competition seems to be picking up primarily on the commercial real estate space. Maybe just a little commentary on what you’re seeing from competitive pressures. Are you seeing anything out there that’s stretching it either on pricing or on credit terms?

John Barnes

Yeah. I think, and like everybody else that segment certainly has become very competitive over the last year or two. The competitive atmosphere if you will continues to be pretty intense. The property values also are impacting commercial real estate portfolios. I think that some long-term holders are selling as values increase.

Timur Braziler – Deutsche Bank

Okay great. And then just lastly, if you have the total commercial loan pipeline at the end of the second quarter and how that compares to the first quarter.

John Barnes

We don’t really give out the pipelines. I think in our commentary we mentioned our pipelines remain strong and they do pretty much in line with last quarter.

Operator

Your next question comes from in the line David Darst with Guggenheim Securities. Please proceed.

David Darst – Guggenheim Securities

So I guess this quarter, as far as funding your loan growth, you had the benefit of the sub debt. And so that contributed to the loan to deposit ratio inching up. How are you thinking about for the remainder of the year and next year, funding deposit, funding the loan growth and managing the deposit ratio?

John Barnes

I’m going to ask David to take that.

David Rosato

Sure. Hi David. As we said on the last call, we ended the first quarter with loan to deposit ratio of 103. And we said that, we would expect it to be slightly lower than that and trend lower over the course of the year. The second quarter tends to be a seasonally low quarter for us for deposits and the first quarter tends to be a little elevated. So we are not backing away from our thinking that we will have a lower -- gradually lower loan to deposit ratio as the second half of the year unfolds.

David Darst – Guggenheim Securities

And you’re expecting – is that coming from broker deposits or are you going to try and test your own markets for some CD specials or is it core deposits?

David Rosato

It's going to be a combination of additional broker deposits as well as core deposits being defined as both commercial-retail as well as our government banking business.

Kirk Walters

David, it's Kirk. This tends to be seasonally our lower point, not only for retail, but we always end up in the situation with municipal where in particular states right at the end of their year, they have to pay off their loans, et cetera. So you’ll see in the footnotes to our slide that we indicated that we had an outflow of about $180 million in municipals right at the end of the quarter and that’s a number that generally comes back in, in pretty short order in July.

David Darst – Guggenheim Securities

Okay. Then what are the loan items that we need to adjust for the JV?

Kirk Walters

I'll take a crack at that. Obviously the gain that came through is a one-time gain item, and what will happen now with the JV where we have a minority interest is it will continue to flow through, the income will continue to flow through the other line which is where Merchant Services income was previously. Obviously it will come through on a net basis. So there will also be some very minor reductions down in the G&A areas. So it's going to flow through and for our practical purpose right in the other income line no different than it did before.

David Darst – Guggenheim Securities

Okay. Do you anticipate that with the partnership you can accelerate the net growth and net returns for that business?

John Barnes

We looked at certainly a long-term effort to improve what we’re delivering to our client-base. And within into the market, Vantiv has the capacity to handle much larger merchants than we could necessarily attract and the experience to deal with them. They also bring a sales program that is stronger than what we were putting on the ground. So that has a lot to do with the forward looking strategy and we’ll be working together with them to realize the benefits of it as we go. It will be gradual and take some time kicking in.

Operator

Your next question comes from line of Collyn Gilbert with KBW. Please proceed.

Collyn Gilbert – Keefe, Bruyette & Woods

Just quickly to follow up on David’s question on the merchant banking. So I think unless I’m looking at this wrong, it looks like you’ve consolidated some of your fee lines this quarter. What was the merchant service income in the second quarter?

Kirk Walters

That is a line that we’ve historically broken out, Collyn in term of (inaudible.

David Rosato

We have previously provided that line item. We’ve collapsed it this quarter in light of the venture being informed because the equity method pickup will now roll through other non-interest income as Kirk said earlier.

Collyn Gilbert – Keefe, Bruyette & Woods

Okay. So I think it was $1.1 million in the first quarter. Do you know what that was in the second quarter, or can you give it to us or?

Kirk Walters

I think it’s a pretty comparable number. Sorry about that.

Collyn Gilbert – Keefe, Bruyette & Woods

Okay. So then if we just kind of, again following on sort of the trajectory of what this joint venture will bring, the objective is just to sort of accelerate the growth based on what you said Jack with the sales effort and larger merchants and that type of thing. Is that correct?

John Barnes

That’s correct. I think just a little bit more color which will hopefully help people understand, we’ve been in this business a long time. We had kind of flattened out in the growth of the business. And so we went through an evaluation of kind of how do we move ourselves forward from here, including just strengthening our own sales program. We looked at the capabilities, where are we not winning business? And then we looked at all the alternatives and went through a pretty thorough process and landed on that this type of approach gave us the best possibility and prospects for growing the contribution of the business with the company. We’ve got a great footprint. We have a lot of commercial relationships and it’s a great product to deliver in to them. So we’re expecting over time that we’ll see a nice benefit from entering this relationship.

Collyn Gilbert – Keefe, Bruyette & Woods

Okay that’s helpful. And just to touch back on the C&I growth that you guys put up this quarter. Linked quarter increase of about, I mean $573 million and that was – that’s a huge increase. Certainly the highest you guys have seen in quite a long time. Jack, I know you gave some color as to what was driving that, but was there any one large relationship in there that drove the bulk of that? It just seems like a huge jump on a linked quarter basis.

John Barnes

No, I’m sorry. What line are you looking at?

Collyn Gilbert – Keefe, Bruyette & Woods

The C&I loans that went from --

John Barnes

Sure. Sorry I didn’t hear the beginning of what you were saying. No, not at all actually. One thing I did mention which I should is we did very well in the middle market piece of our core commercial relationships as well. So it really was across the board. I think probably the only kind of net new effort was we had some nice early contribution from the team that joined us in Boston. And in addition to that, we’ve been working hard with making progress and building out the team in Massachusetts, and just had some nice progress. I mentioned the two main relationship. Those were nice wins, good size customers in that market.

Collyn Gilbert – Keefe, Bruyette & Woods

Okay and then …

John Barnes

But it was in the scheme of things sorry, to get to your question Collyn, very granular.

Collyn Gilbert – Keefe, Bruyette & Woods

Okay, that’s helpful. And then just a long those lines, how should we think about commercial banking fees, that are kind of -- were down on a linked quarter basis, but yet you’re seeing this tremendous commercial growth. Are you finding yourself having to sort of concede on certain fees to get the relationship or -- just trying to understand that dynamic.

John Barnes

Yeah, there’s a lot there. So some of it is – there were lower prepayment fees in the quarter which some of the commercial loan fees, I think that line referenced and because we don’t run prepayment fees through our margins. And then if you look across, we talk about our increasing capabilities and we have increased our capabilities in international service areas, in the derivative sales areas and strength in our cash management product set and we have more sales folks on the ground in the market. So we are expecting and we are getting some nice traction. The prepayment fees, that activity just happens. I think it’s slowing as the number of -- so many people have refinanced over the last several years. There just aren’t just that many people left in the portfolio that are going to make that decision to pay the fee and go to the lower rates.

Collyn Gilbert – Keefe, Bruyette & Woods

Sure. Okay, that’s helpful. And then just one quick final question. Kirk, on the expenses, now given you’ve gotten through the first quarter. You’ve rationalized some of these branches. Is this $208 million a good run rate on the expense side do you think from here?

Kirk Walters

I think when you look at the quarter on an operating basis, I think it was just a hair maybe a touch lower than that. But the -- I think we tend to run in this range of probably $205 million to $208 million and as we go into the latter part of the year, our expectation will be pretty similar to that. We do pick up an extra day in terms of day counts and that kind of thing. So there may be a little bit of uptick. But we’ve I think been pretty successful over a number of quarters now to run in a pretty consistent expense level while at the same time funding a number of new initiatives and dealing with the compliance cost.

Operator

Your next question comes from the line of Robert Ramsey with FBR Capital Markets. Please proceed.

Robert Ramsey - FBR Capital Markets

Hey, good afternoon everyone. Question for you. As I think about the incremental cost and the sub-debt that you guys issued after swapping it to variable rate, what is the drag you expect that to have on your margin in the third quarter? Is that a couple of basis points?

David Rosato

Sure. Hey Bob, it’s David. It’s a basis point or two to the margin going forward.

Robert Ramsey - FBR Capital Markets

Okay. And I think you guys in the past have said margin for the year to be between $310 million and $320 million and I guess that guidance still applies here.

David Rosato

Yes, it does.

Robert Ramsey - FBR Capital Markets

Great. On the joint venture, just -- I know you guys have talked a lot about it. Just curious what changes, which events are coming through that I know you guys highlighted in the release you’ve worked with Vantiv for the last eight years. Just can you help me understand what the joint venture, what’s different on a go forward basis?

Kirk Walters

I’ll take the first -- we’re getting an echo here somewhere. I don’t know why. But I’ll take a first crack at it and then Jack can add on to it. One of the primary things that they bring to the table other than technology deeper products and a lot of good things is that there will be a much larger dedicated sales force that will be calling not only on our customers’ referrals, but on other non-People’s customers in our footprint. And that sales force is really tasked with moving us along in terms of the merchant processing business. And that will be managed by people at Vantiv to have a real expertise and increase the sales effort there. So I think that plus for our customers really a better product set, better technology, better security round, it’s all a plus.

Robert Ramsey - FBR Capital Markets

And do you guys get an edge or an in on cross selling other commercial banking services from People’s to customer of Vantiv that maybe today are not People’s banking clients?

John Barnes

Absolutely. Sorry, this is Jack. You get that opportunity, but we also get the opportunity to again sell capabilities on the merchant processing side into some of our larger corporate clients that Vantiv has a lot more experiences dealing with, some very significant entities, merchants that have unique processing needs. There’s a lot of expertise in the business around different types of merchants and we’ll bring a lot more of that to the table. So that will help build, deepen the relationships we have with some of our largest customers as well.

Robert Ramsey - FBR Capital Markets

Okay, great. Last question I guess I’ve got for you guys has to do with resi mortgages. And just that the growth this quarter was a little slower than it has been in past quarters. Growth overall was good, but not the resi mortgage bucket. And the mortgage banking income was not real strong this quarter either. So it doesn’t appear that you guys were selling more production. Just kind of curious if that’s a reflection of less demand in your markets or whether it’s a reflection of you all’s appetite for the product at current rates or sort of what’s your thinking in the resi mortgage area?

David Rosato

Hey Bob, it’s David again. Now I would just say we saw a few months slowdown in our markets and consumer demand. Nothing different on our part as far as the attractiveness of the business or our desire to hold the assets. And I would say that in June and then into July, we have seen the pipelines rebuild both for pipeline, for the balance sheet as well as pipeline for sale. So we think a recovery from the seasonal slowdown is in place.

Operator

Your next question comes from the line of Matthew Kelley with Sterne, Agee. Please proceed.

Matthew Kelley –Sterne, Agee & Leach

Hi guys. The first question is on the margin on slide 20 in your deck looking at the adjusted net interest margin, without the accretion of 304 which is down from 308. In the current interest rate environment, where do you see that adjusted margin going over the next year?

Kirk Walters

Matt, it’s Kirk. I’ll take a first crack at that. I mean we’ve given really no guidance other than our initial guidance for the year of 310 to 320. We do expect over time as the acquired loans rolling off that that will – there may be a little continued drift in there in relation to that acquired portfolio. On the originated portfolio, the new loans coming on are coming great, relatively close to where the portfolio yield is if you adjust it for the acquired loans.

Matthew Kelley –Sterne, Agee & Leach

Okay, but over time you get to that adjusted margin once that total 152 on amortized discount is gone, right?

John Barnes

Over time the rate in environment will change one way or another and as it does then that change is going to impact both our floating rate loans for sure and deposit costs.

Matthew Kelley –Sterne, Agee & Leach

Yeah, got you. On the …

David Rosato

Hey Matt, it’s David. I would just add that that will bleed in over a fairly long period of time as well. It’s not going to disappear quickly.

Matthew Kelley –Sterne, Agee & Leach

Fair enough. What about your reserve coverage on originated loans? It was down a little bit, 75 basis points. Where can we expect that to go over the next year?

Kirk Walters

I think we’ve been holding it at a fairly consistent type range. We give obviously disclosures in our deck in terms of reserves and commercial reserves in residential. And as we’ve indicated, we continue to put away provision every quarter for the growth. So charge offs continue to be really minimal and in fact as we indicated in our commentary, a lot of them are against specific reserves for the bulk of the – the bulk of the provision we’re booking is for the allowance or for the growth, sorry.

Matthew Kelley –Sterne, Agee & Leach

Okay. So it could go down a little more? That could come in a little further the reserve company.

Kirk Walters

I think we’ve been in a pretty consistent range there, a couple basis points so yeah, not moving a lot.

John Barnes

I think it probably is worth mentioning that a driver in the reserve analysis is the level of problem loans, right? And we’ve operated consistent -- we’ve been improving. We have a history of a relative basis, having a relatively lower amount. So that’s part of it. And we did have some rating upgrades and that’s part of the analysis.

Matthew Kelley –Sterne, Agee & Leach

Yeah, got you. And then just the last question, in your NII sensitivity that you guys updated this quarter, in the up 200 basis point environment, the immediate parallel shock, what's assumed in there? What's embedded in deposit runoff in that analysis? Or change in deposit balances?

John Barnes

There’s really no exclusive assumption that I would say around deposit runoffs. We model a projected balance sheet over the next 12 months and we’re expecting our deposit base to grow, not to shrink in that underlying scenario.

Matthew Kelley –Sterne, Agee & Leach

Okay, got it. Actually one last one, what's the mortgage warehouse balance? And how much was that a driver of the C&I growth this quarter?

John Barnes

Let me see as we think about trying to find the balance. So the balance is a little over $0.5 billion on the outstanding side and which is up from – just under. I am sorry, just under $0.5 billion, but up over $100 million from last quarter.

Operator

Your next question comes from line of Ken Zerbe with Morgan Stanley. Please proceed.

Ken Zerbe – Morgan Stanley

Two questions. First on the tax rate. It looks like it was a little bit higher this quarter. Did it have anything to do with the gain from the JV or was there anything else that drove that?

Kirk Walters

It really is -- what's driving it is higher state taxes. There’s probably a couple of factors. One, in the first quarter, we like others in the state of New York, pay taxes and the state of New York receives some benefit right at the end of the quarter. Last quarter, they came through. They helped a bit. The other part is we continue to see growth in our income. The permanent differences have less impact on it. So the – but the primary driver in there is higher state taxes.

Ken Zerbe – Morgan Stanley

Got it, okay. And then the other question, I was looking at the CRE yields in the quarter. It looks like they were down by seven basis points for the portfolio. In the New York City piece, not to get too specific, but where are you guys originating or what yield are originating new CRE loans? And how do you guys think you compare to the market rate?

Kirk Walters

I think we’re in competing with everybody else. So I think the reality is as we are a reflection of the market rate. Our spreads tended to run in there and we look at things and spreads, not yields. But our spreads have run probably 150 to 175 basis points in terms of the multifamily type product in New York City. And when you look at the overall decline in CRE yields; you need to remember that that line carries a lot of the acquired loan tenants. So as those who continue to run down, they have a proportionate impact on that line.

John Barnes

Just take the opportunity as well to mention the non-multifamily in New York, our Long Island team is growing their portfolio in a very strong pace and building relationships that are long-term and really attractive to us. And I know we get a lot of questions about New York multifamily, but we really are having and making some nice progress in the non-multifamily area as well. And we’ve just hired a very experienced gentleman who’s basically got a career in New York City, and we are looking forward to some continued progress there.

Operator

Your next question comes from the line of Casey Haire, with Jefferies. Please proceed.

Casey Haire – Jefferies

Good afternoon guys. Just question on the fee outlook. It came in a little light – lighter than I was expecting. If memory serves, you guys are calling for it to be flat with 2013 at around 336. And halfway through the year, you guys are running about 5% behind that. I'm just curious, is that still a good guide? And if so, what are the drivers from here outside of this JV obviously?

John Barnes

Yes, we’re -- I would believe it is a good guide, but we see the challenge there. I think the biggest piece for us in the quarter was that even though we, as we described we projected the refinance to slow significantly and gain on sale to be down. It was down a little further than we expected. And on the other hand, we look across our other fee businesses and there is a lot of them and we are doing better in asset management. Really have made some nice progress there and we anticipate that to continue to move forward. Brokerage is better and there’s a variety of the pieces of the fee income that are -- so like always as you move through a year you’ve got some puts and takes, but we are continuing to make progress.

Casey Haire – Jefferies

Okay. And then just switching to balance sheet mix, curious, obviously the commercial momentum has been great in shrinking the securities book. Obviously wondering where you guys stand today as it relates to the QTL test? Obviously last fourth quarter you guys took some action with the commercial book growing and the securities book shrinking. Where do you guys stand today and are you going to be looking to take action to get on sides with the QTL?

John Barnes

As you probably know every quarter in the call report we’re asked to report where we are with the QTL and we are consistently and need to be in compliance. We continue to be in good stead in terms of our QTL compliance. As we continue to grow and monitor that, as we did last year I think the typical resolution, but not the only resolution, is to add mortgage backed securities that qualify. We continue to follow that. We are in compliance and continuing to move forward.

Casey Haire – Jefferies

Okay. You don’t anticipate adding MBS to stay in compliance in the near term?

John Barnes

I would say at – there’s not a specific projection here, Casey, but we probably will add a little toward the end of the year depending on where our gross comes from.

Kirk Walters

It would really be in the context of overall balance sheet management, not only driven towards QTL requirements.

Operator

You next question comes from the line of Tom Alonso with Macquarie. Please proceed.

Tom Alonso - Macquarie

Hey, guys, just a quick one on the Vantiv JV. I just want to make sure that I’m thinking about the impact here on the income statement correctly. All else equal we shouldn’t see a big jump up in the other income line next quarter. This is more ... your share of the JV on a net basis should be similar to the income that you were reporting and then over time you expect that to grow a little bit faster. Is that how we should think about it?

John Barnes

Yes. That’s exactly right. We’ve contributed our portfolio. We will earn that. We do have some expense reduction, but it’s very modest and then we’ll move forward growing the business with Vantiv over the long term.

Operator

Your next question comes from the line of John Pancari with Evercore.

John Pancari - Evercore Partners

On the loan yield topic, real quick, on that commercial real estate spread that you gave, is that over your funding -- is that spread over your funding cost or is that spread over the respective benchmark prime over LIBOR?

Kirk Walters

Are you referring to the multifamily number?

John Pancari - Evercore Partners

Yes.

Kirk Walters

That’s over whatever would be the respective terms over the five year loan or seven year or four year or 10 year. So I say we think about things in relations to spreads over whatever the match terms are. There’s very limited amount of those that are floating rate loans. Most of those are fixed rate loans.

John Pancari - Evercore Partners

All right. So that 150 to 175 spread for multifamily, that’s down from about 185 bps I think you had indicated in the first quarter, correct?

Kirk Walters

I think in the first quarter I indicated a range because I typically give a range but it is down a little bit from there, yes.

John Pancari - Evercore Partners

Okay. And can I get some more numbers from you on the commercial yields? You overall commercial yield for the portfolio was down 9 bps this quarter. So can help us out with where the new spreads are for that portfolio versus last quarter?

Kirk Walters

For which -- I want to make sure I’m answering your question. Which quarter in particular?

John Pancari - Evercore Partners

This quarter versus last quarter, how did the spread for the C&I portfolio change? Like what is the spread and how did it change versus last quarter?

Kirk Walters

I think if you look at sort of your classic middle market type of spread, quarter to quarter, we probably came down around 8 to 10 basis points that range.

John Pancari - Evercore Partners

Okay. So that’s the lion share of the driver behind the 9 basis point decline in the overall yield for the commercial portfolio this quarter, correct?

Kirk Walters

Well and remember as I had commented earlier, John, when you look at the overall commercial portfolio, that’s where the bulk of the acquired assets reside. And if those are running down in higher yields that impacts it too.

John Pancari - Evercore Partners

Okay. I just thought you were talking about CRE when you made that comment. Okay. All right, and then on the broker deposits, your balance is currently around $1.3 billion, correct?

John Barnes

That’s correct.

John Pancari - Evercore Partners

So are you still on track to reach $2 billion by the end of the year?

John Barnes

Yes. That was our expectation.

John Pancari - Evercore Partners

Okay. And what rate and term are bringing on the broker deposits?

John Barnes

As we said in the prepared remarks, about 80% is money market. The money markets are coming in between 15 and 25 basis points and the balance is in CDs of different maturity ranges. We’ve been issuing three months to about two years. That average cost is 30 to 35 basis points. You can do the math, but it’s very cost effective funding for us.

John Pancari - Evercore Partners

Okay. And then my last question is around expenses. I know you gave a little bit of color around the run rate of expense. In terms of your expectation for the efficiency ratio, do you still expect the low 60s efficiency ratio by year end 2014 and do you also still expect a below 60% longer term range?

Kirk Walters

The answer would be yes to the first one and I’d say on longer term basis we still continue to work very hard to drive that efficiency ratio down.

Operator

You next question comes from the line of Mark Fitzgibbon with Sandler O'Neill and Partners.

Mark Fitzgibbon - Sandler O'Neill and Partners

Good afternoon, guys I wondered if you could share with us which geographies in your franchise are performing best where you’re seeing the best loan growth and fee revenues and that sort of thing.

John Barnes

It’s such a mix because of the difference between say the long term legacy markets where incremental growth is meaningful, but doesn’t necessarily have a growth rate off of a smaller denominator. So we are making great progress in Massachusetts, particularly in the greater Boston area. And we see that pace continuing to pick up nicely. We were very pleased with the evolution of the commercial teams and actually all of the teams in Boston working together well. They’re cross selling really effectively. We are growing C&I portfolio and the commercial real estate portfolio well. There’s an ABL team that I think some of you folks would recognize has been there through the Danvers acquisition and actually legacy Citizens Group that has worked together a long time. They are making good process. In New York, we are doing really well on Long Island with both the C&I team and the commercial real estate team and their growth rates are significant.

Westchester County, C&I team is making really nice progress and you’ve heard a lot about multifamily. They put $1billion on last year and they’re not going to do that this year, but they’re doing well. And as I mentioned, we’ve made what we think is a really great new hire in New York on leading the commercial real estate, the non-multi-group and we expect to continue to make continued progress in that area as well. I guess the other thing – I'm sorry, you asked, but on the equipment finance area, we’re getting steady growth in both the old finFET and our PCLC group and I would say both of those groups are making really great progress. We’re really pleased with it. ABL is growing steady, a little bit slower than the equipment finance groups, but their pipeline and good and we feel really good about the steady improvement that they’re making.

Mark Fitzgibbon - Sandler O'Neill and Partners

Jack, second question. Thank you. That was helpful, that color. You have a really strong acquisition currency. Do you think acquisitions are in the cards for People’s in the near term?

John Barnes

I think the view is the same as we always start with. We don’t need to do an acquisition to keep doing what we’re doing here. And we think about it that way. I have been active in building relationships. I feel really good about doing that. I think we’ve got a good view within the northeast, which with who would make sense for us. And so we’ll continue to contemplate that and if things are right, we’ll work at it. But the environment around that is as you know also, very different than it was. So mostly, we’re focused on growing these opportunities out and taking advantage of our positioning and if something makes good sense because of the strength of our situation, we’ll look at it.

Mark Fitzgibbon - Sandler O'Neill and Partners

Thank you. And the last question I had is, recently we’ve been hearing a lot from many similar sized banks about the need for incremental spending to deal with the increased regulatory burden. I wondered if you could comment on whether you’re seeing that or you anticipate that and what kind of impact it's likely to have on expenses in maybe the intermediate term?

John Barnes

Yeah. So I think we’ve mentioned this in the past as well, but I’ll run through some categories and give you some perspective. And I will start with, we are not anticipating any incremental surge having to do with that. We have built out our risk areas and compliance operational risk BSA over the last three years. And we’ve made incremental increases in staffing and built out new expectations around things like compliance testing, operational risk, staffing and evaluation, software that relates to operational risk monitoring and governance and BSA staffing.

We just went operational with a new piece of software there that we’ve spent money on. And in the stress testing area, we’ve been stress testing and building our capabilities steadily there for three years. As David often describes, we’re building our stress testing capability to be a CCAR-like. So as I describe all that, in our expenses over the last three years, those spends and the incremental impact on staffing and the like are in the numbers, which is why we comment about being pleased with our expense management overall despite having spent more money on the regulatory environment.

Operator

Ladies and gentlemen, this will conclude the time we have for questions. I'd now like to turn the call over to Mr. Goulding for closing remarks.

Peter Goulding

Thank you again for joining us today. We appreciate your interest in People’s United. If you should have any questions, please feel free to contact me at 203-338-6799. Thanks.

Operator

Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect. Good day.

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