Banc of California, Inc. (NYSE:BANC)
Q4 2015 Results Earnings Conference Call
January 28, 2016, 11 AM ET
Timothy Sedabres - Director of Investor Relations
Steven Sugarman - President and Chief Executive Officer
James McKinney - Chief Financial Officer
Fran Turner - Chief Strategy Officer
Hugh Boyle - Chief Credit Officer and Chief Risk Officer
Andrew Liesch - Sandler O'Neill
Good morning and welcome to the Banc of California Fourth Quarter 2015 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] Please note this event is being recorded.
I would now like to turn the conference over to Timothy Sedabres, Director of Investor Relations. Please go ahead.
Thank you and good morning everyone. Thank you for joining us today for today’s fourth quarter 2015 earnings conference call. Joining me on the call today to discuss fourth quarter results are Banc of California’s Chairman and Chief Executive Officer, Steven Sugarman; Chief Financial Officer, Jim McKinney; Chief Strategy Officer, Fran Turner; and Chief Risk Officer, Hugh Boyle.
I’d like to remind everyone that today’s conference call is being recorded and a copy of that recording will be available later on the company’s Investor Relations website. We’ve furnished a presentation that management will reference on today’s call and that presentation as well is also available on our website under the Investor Relations section.
Before I turn it over to Steve, I’d like to remind everyone that as always certain elements of this presentation are forward-looking and are based on our best view of the world and our businesses as we see them today. Those elements can change as the world changes. Please interpret them in that light. Those forward-looking statements are outlined on slide 1 of today’s presentation which apply to our comments today. We will provide an opportunity for Q&A at the end of the presentation.
And with that, I’ll turn it over to our Chairman and CEO, Steven Sugarman.
Thank you, Tim, and welcome to everyone joining our fourth earnings call. Let me begin on slide 2. Banc of California saw tangible evidence of accelerating success in growing our franchise value in 2015. This was reflected in the company’s ability to generate over $100 million in pre-tax profits for the year, resulting in an increase of nearly 300% from a year earlier.
Consistent with our guidance, we finished the year with an ROA of 1% and an ROTCE of 17% in the fourth quarter. These strong results led the Banc of California being recognized as one of America’s Top 100 banks by Forbes magazine this month. On that list, we ranked number 4 in terms of total shareholders return in 2015 and I’m proud to say that we were number 1 amongst West Coast banks in terms of total shareholder return.
These accomplishments are a result of the strategic investments the company has made over the last two plus years since I took the helm as CEO of our bank during the fourth quarter of 2013. I’m thankful to our strong and independent Board of Directors for providing the company the capital, the strategic oversight and the resources needed to build California’s top performing bank in terms of total return to shareholders in 2015. We entered 2016 optimistic for continuing our strong trends related to growth and profitability.
The fourth quarter marked the seventh consecutive quarter that the company has beat consensus analysts’ estimates. For the entire year, the company exceeded analyst estimates by approximately 20%. Management believes that the company is poised to outperform consensus expectations in 2016 as well as a result of estimates not currently reflecting management’s preliminary guidance for 2016 or the scale and profitability of our year-end balance sheet.
It appears that expectations continue to under estimate our pace of growth with year-end 2015 assets now approximately two quarters ahead of consensus expectations. Additionally, the company’s profitability continues to exceed expectations even adjusting for the company’s larger total asset size.
Turning to slide 3, the consistent and accelerating outperformance compared to estimates reflects the fact that Banc of California has hit an inflection point in its business plan, characterized by accelerating profitability and organic growth. For example, as you can see on this slide, 2015 results presented an inflection point for pre-tax profitability as pre-tax income was nearly four times higher than 2014.
Similarly, meaningful improvement was also seen with respect to earnings per share, return on assets and return on tangible common equity. Notwithstanding the fact that in 2015 the company had to overcome the hurdle of paying a full tax rate of approximately 40%, this was not the case in 2014 where the company paid zero taxes. We know the tax adjusted results for 2014 as if we had been paying the fully adjusted tax rate. This highlights the acceleration in earnings performance we achieved in 2015 year-over-year.
Specifically with respect to fourth quarter performance, I’d like to highlight a few key items. First, net quarter-over-quarter loan growth exceeded $450 million for loans held for investment. Second, net quarter-over-quarter core deposit growth exceeded $540 million, including approximately $110 million of non-interest bearing deposits.
And third, we achieved management stated year-end performance guidance during the fourth quarter of 1% return on average assets, 15% return on average tangible common equity and a 70% to 75% efficiency ratio. This is a result of our marginal efficiency ratio for the quarter of 39%, which was in line with our long-term target to be below 40%. We achieved these strong results in 2015 through our continued focus on delivering against our value proposition of being California’s bank and some help from industry trends in Southern California banking which has put a brisk wind at our back.
Slide 4 outlines the changing banking landscape we are seeing today. Banc of California’s value proposition is clearly taking hold and resulting in increasing market share gains. A great example of this is our Private Banking division which surpassed $1 billion in deposits in 2015. This was a significant achievement for a business that was acquired in 2013 as part of our acquisition of the Private Bank of California.
Since the date of the acquisition, the Private Bank has doubled in terms of total deposits and its momentum is generating accelerating core growth and core low cost deposits. This is a combination of investments we have made in the business, its technology and its strong team.
We’re winning the war for talent with several key hires over the past several weeks. This includes the Head of Business Banking and several of his colleagues from City National Bank and a high performing private banking team from Wells Fargo. Additionally, our recently hired interest rate swaps and foreign exchange teams were formerly with City National and our new deposit operations and treasury management leadership came from Union Bank.
Our success with attracting talent as well as new clients in part is enhanced by market forces relating to City National Bank’s sale to Royal Bank of Canada, OneWest Bank’s sale to the New York-based bank CIT and Union Bank’s decision to move its corporate headquarters to New York. As California’s bank, we believe our value proposition differentiates itself from banks run from New York and Toronto by New Yorkers and Canadians. Clients and relationship managers appear to agree.
Turning to slide 5, recaps our previous public guidance. One year ago, we provided clear public guidance related to our anticipated 2015 performance. Importantly, we achieved each target. These included the following. One, Banc of California would achieve EPS in excess of analysts’ estimates of $1.15 per share. We beat this guidance by over 16%.
Two, Banc of California would originate over $7 billion in loans in 2015. We exceeded this target with $7.1 billion of total production. Three, Banc of California would finish 2015 with run rate economics equal to 1% ROA, 15% ROTCE, and 70% to 75% efficiency ratio. We met or beat each of these targets.
Over the course of the year, we reiterated this guidance and provided certain additional guidance such as management’s expectation that we’d finish the year with total assets between $8 billion and $8.5 billion. We met or exceeded each of these targets, notwithstanding consensus estimates well below the public guidance.
We believe this is a testament to our team’s strong capabilities to execute against our strategic plan without incurring unnecessary risks. Our accomplishments in 2015 now positions Banc of California to begin 2016 with a core earnings run rate that is well ahead of expectations.
On slide 6, we update our preliminary guidance relating to 2016. First, we expect core EPS to exceed existing analyst estimates for 2016 of $1.31 per share and we update our preliminary guidance to achieve a 15% year-over-year EPS growth compared to 2015. This would equate to EPS in 2016 of approximately $1.55 per share.
Second, we expect to originate over $8 billion in loans in 2016. And third, we will continue to target an ROTCE of 15% in 2016. While we’re comfortable with existing first quarter estimates, we expect EPS growth to accelerate throughout the year as our core earnings increasingly are driven by net interest income.
The company has successfully transitioned earnings on a segment reporting level increasingly to the commercial banking segment, which now represents over 80% of the company’s fully allocated business segment profits. This has resulted in dramatically reduced earnings volatility over the past year plus which Jim will walk you through shortly.
I’m very proud of the work of our team of dedicated employees across the company. These teams and individuals are to be congratulated on a strong 2015. Their hard work and dedication to our clients is key to our ability to bring the value proposition to market every day. One of the key factors in our success is winning the war for talented banking professionals. We are thrilled with our success on this front.
We continue to invest in these key resources, both people and the infrastructure to support them. Today I’m joined by our new CFO, Jim McKinney, who will dive further into our fourth quarter results. Jim?
Thank you, Steve. Turning to slide 7. The fourth quarter marks the seventh consecutive quarter that Banc of California has delivered an ROAA above 75 basis points and a return on tangible common equity above 10%. It also happens to be the seventh straight quarter we have delivered earnings per share above analyst consensus estimates.
The strength and stability of earnings is even more impressive given that over the past six quarters we have continued to invest in and grow the company from $4 billion in assets to $8.2 billion today. Earnings per share of $0.39 for the quarter was a record, as was pre-tax income of $31 million. ROA of 1% for the fourth quarter was in line with our previous guidance and ROTCE of 17% was above our public guidance of 15%-plus.
Slide 8 outlines our returns by business segment. Our Commercial Banking segment has seen its quarterly pre-tax profits increase by approximately $30 million since our acquisition of Popular Community Bank in the fourth quarter of 2014. These results are aligned with our previously stated goal to improve our business mix by increasing the percentage of our pre-tax earnings coming from our Commercial Banking segment.
By growing the Commercial Bank, we have diversified the company away from its legacy mortgage banking focus and as you can see on the slide, mortgage banking and financial advisory earnings for 2015 now account for less than 20% of our total business segment pre-tax income on a fully allocated basis. Slides 19 and 20 of the presentation appendix provides detail on the allocations within the SEC reporting segments.
Turning to slide 9, we have summarized the dramatically reduced earnings volatility over the past year and a half where Banc of California’s earnings volatility has fallen to below most of our commercial banking peers. From the end of 2012 to early 2014 we saw 560% realized earnings volatility at Banc of California, driven by the concentration of mortgage banking earnings which impacted sustainable and predictable earnings.
From the second quarter of 2014 through last quarter, we have seen just 8% earnings volatility, right below the 8.6% commercial bank peer median and well below the 19.6% median for mortgage-focused banks. We believe our lower earnings volatility which results from higher net interest income and less mortgage banking contribution should increase visibility of returns and increase investor confidence in the predictability of earnings.
Turning to slide 10, our base non-interest expenses increased by $4.5 million from the prior quarter as the company’s assets and earnings grew significantly. Volume related expenses declined by $1.4 million as mortgage banking origination volumes were down from the prior quarter.
Additionally, the fourth quarter included $2.7 million of non-core expense items, primarily related to severance expenses and transaction expenses related to purchases and sales of SFR pools during the quarter.
Asset per FTE continued to increase in the fourth quarter to $4.8 million per FTE, reflecting the continued leverage of the platform and infrastructure we’ve built to date. This scalable infrastructure is a competitive advantage for us and is a key pillar of our ability to continue to grow at an attractive marginal economics.
We continue to invest to support the growth of the franchise. Looking to 2016 we have spent a great deal of effort in the strategic planning process to ensure we are disciplined with how resource dollars are invested. As part of our plan for 2016, we are focused on core marginal efficiency ratio of 40% for incremental growth. This means that each new dollar of revenue should come in with less than $0.40 of related incremental expense. Through growth at these strong marginal returns, we expect to drive down the consolidated efficiency ratio to 65 basis points to 70 basis points for the full year 2016.
Slide 11 outlines our continued strength in growing deposit balances. For the quarter, we grew core deposits by a record $540 million. Total deposits have grown by 35% from a year ago as our continued focus on increasing share of wallet with clients drove the deposit increase as average balances per account grew by 17% from the third quarter to over $97,000 per account.
Non-interest bearing balances grew by $110 million for the third quarter and have increased by 69% from a year ago. At the same time we’re growing deposits we have managed the cost of deposits down to 48 basis points for the fourth quarter, down 12 basis points from a year ago.
Moving to slide 12, this slide recaps the trend of accelerating loan originations. In the fourth quarter, the commercial banking segment produced a record $914 million of loan originations. Originations were balanced across the commercial business lines as we saw continued strength in our core organic loan growth. Yields on new commercial originations were 4.3%, stable from the third quarter levels.
Meanwhile, mortgage banking saw fourth quarter originations finish at $951 million, down 13% from the prior quarter as increasing interest rates coupled with a seasonally slow period plus mortgage banking profits [indiscernible]. For the full year, total originations exceeded our $7 billion budget. We believe we now have the business we need to continue scaling the bank without requiring large acquisitions of whole banks or new lines of business.
Finally, on slide 13, our capital ratios as of the year end exceed both current and fully phased in Basel III requirements. This is true for both the common equity Tier 1 ratio and the Tier 1 risk based capital ratio.
With that, I will now turn it over to Fran Turner, our Chief Strategy Officer, to highlight a few of our expanded product offerings.
Thank you, Jim. Slide 14 highlights few of our recently expanded product and service offerings which we have launched over the past few months.
As we think about our value proposition of empowering California’s diverse entrepreneurs, private businesses and communities having a comprehensive suite of products serving a broad set of client needs is key to winning our clients’ primary banking relationship.
As you think about our target client, it is the business owner and the entrepreneur who are at the center with our offering serving their holistic needs, including personal private banking, deposits, lending and foreign exchange for the portfolio companies which they own and/or operate, along with lending on their various personal and real estate investment properties.
In California, many business owners have businesses and private banking needs as well as investor real estate lending needs as many of our clients own a handful of multi-family properties. Trust services, for example, is foundational to serving the needs of the private and commercial banking clients and fits well within our Financial Institutions Group partnering with broker dealers and ROAAs.
Family, charitable and special need trust are critical component of a client’s personal and business life and our full scope of trust services are designed to meet those needs. Foreign exchange serves both the businesses and the private banking clients who either operate in or invest internationally, including import or export or even are entertainment clients who produce films or tour internationally.
The launch of our interest rate swaps primarily serves the commercial real estate and multi-family clients who often seek a fixed rate product, whereas we often prefer a variable rate product as part of our asset sensitivity modeling. With an in-house swap solution, we are able to serve the needs of the clients while at the same time generate fee income and provide our own balance sheet with increasingly more variable rate assets.
Merchant processing, which we’ll be rolling out later this year, is aligned to deepen our existing relationships within both business banking and our private bank clients by offering payment processing for retail, restaurants and to any of our clients’ other businesses that accept card payments. We have a large untapped opportunity to leverage here simply through our existing client base.
Our client base provides an excellent foundation from which we look to expand our merchant processing businesses more broadly. On the debit card side, with the continued growth in the number of card holders and the respective card volume, we’re able to become a MasterCard principal issuer and we’ll now be directly issuing debit cards to our customers and clients of Banc of California.
Although not a material revenue opportunity immediate term on its own, the debit card business serves as our foundation from which we will build additional card-related products as we look to our expansion within the e-payments business. Collectively, all of these new products and services provides with additional opportunities to deepen our relationship with our clients, increase wallet share, while also laying the foundation for incremental sustainable fee revenue growth for the company going forward.
And with that, I’ll turn it over to Hugh Boyle, our Chief Risk Officer, to discuss credit and asset quality.
Thank you, Fran, and good morning everyone. Asset quality at Banc of California remains strong and steady. Slide 15 in our investor presentation deck addresses a few asset quality highlights and our allowance for loan and lease losses.
Overall for the quarter, the bank saw stable to improving asset quality metrics. On a percentage basis, non-performing assets to total assets declined to 56 basis points, the lowest level experienced in two years. Year-over-year, our non-performing assets to total assets ratio has improved by 9 basis points or 14%. The absolute level of non-performing loans remained flat for the quarter and OREO remained low at $1 million.
Based on the continued stability in our asset quality and the relatively benign macroeconomic environment, the bank’s allowance for loan and lease losses or ALLL increased by less than $800,000 to $35.5 million. Net loan growth was the key driver of provisions and the increased level of reserves.
Banc of California’s ALLL to total non-performing loans ratio was 79% at year-end 2015. When both the ALLL and fair value discounts are combined relative to total HFI loans, the bank has a 2.66% reserve coverage ratio at year end.
With that, I’ll turn it back over to Steven Sugarman, our CEO.
Thank you, Hugh. Turning to slide 16, I’d like to highlight the impressive progress that has been made at Banc of California since the new management team has been in place. Three-year compound annual growth rates for asset growth, loan growth and deposit growth have all been in excess of 60%.
More importantly, pre-tax income has grown from $6 million in 2012 to over $104 million in 2015, representing a three-year compound annual growth rate of over 150% and earnings per share has grown from $0.39 in 2012 to $1.34 in 2015, representing a three-year compound annual growth rate of 51%. This significant financial progress we have made over the past three years is impressive and something that all of our employees, shareholders take tremendous pride in.
Looking forward, I remain confident in the team’s ability to continue to drive accelerating earnings throughout 2016. With the team, platform and infrastructure we have built, we see considerable opportunities for continued growth of our businesses over the course of the year.
As a result of this growth and the improving financial returns over the past three years, our total shareholder return for 2015 led our peer group at over 32%. This compared to a median return of our high-performing peers of 15% and the KBW Regional Bank Index of 6%. Meanwhile, the KBW Bank Index and Russell 3000 indexes were relatively flat during 2015.
We believe the continued execution against our plan and the accelerating financial returns we see on the horizon support our goal of providing leading returns to shareholders over the course of 2016 and beyond.
Slide 17 showcases the accelerated growth of Banc of California compared to market expectations. We continue to be focused on delivering against our commitments to shareholders and this includes the operational and financial guidance we provide to investors. We have continued to meet or exceed our public guidance.
As you see here, our fourth quarter results for assets, loans, deposits are all largely aligned with market expectations for the second quarter of 2016. This highlights the fact that our growth rate is ahead of consensus estimates. This strong base at the end of 2015 provides us with a large balance sheet and more spread based revenues to start the year with.
You can see the fourth quarter net interest income was almost right on top of market expectations for net interest income for the second quarter of 2016. We’re hopeful that the gap between consensus estimates and management guidance going forward will narrow, given management’s ongoing ability to hit our guidance, the lower level of our earnings volatility and the greater visibility into the earnings power of the franchise.
That concludes our formal comments today. With that, operator, let’s open the call up for questions.
[Operator Instructions] Our first question comes from Andrew Liesch with Sandler O’Neill.
Just some questions on the loan production this past quarter on the commercial side, $951 millions, so very strong and it sounds like that’s going to continue into next year. But then I’m just trying to reconcile that with overall loan growth forecast, are you expecting – just given some seasonality or some seasoning of some of the credits that you have, some pay downs or are you anticipating loan sales, I’m just trying to reconcile your asset growth number with the loan growth number and the production expectation?
It’s a good question. We continue to have a healthy capital markets function which will continue to result in loan sales to prune the composition of the portfolio, but also to manage our balance sheet and capital efficiency. So as we move forward similarly to as we’ve done in the past, you should expect loan sales to dampen our overall total asset growth and those sales will primarily come from three segments, our jumbo residential private lending group, our multi-family group, and our small business SBA group.
And then were sales this quarter captured in that net gain on sale of loans, like the $15.2 million?
Yes. So what we’re finding is that the success of the businesses we’ve built that are originating high quality loans is resulting in originations above our capital capacity to hold HFI and at the same time we’re seeing attractive economics for selling those loans, which reflects the high credit quality, the strong pricing and the strong relationship-based lending that we do. And so instead of tempering our businesses production, we allow our businesses to produce high quality loans and those that we can’t fit onto our balance sheet within our growth guidelines will sell into the secondary markets and that can generate gain on sale revenue that is distinct and independent from our mortgage banking business.
Then switching to the expenses, just looking at the presentation, the acquisition non-core cost of $2.7 million, just curios what those were related to?
Those are diverse mix of things, but the primary drivers are we had some severance costs that came in in the fourth quarter relating to some of our mostly executive turnover that we saw previously last year and we also had some transaction-based expenses relating to some of the loan acquisition and trading that we did during the quarter which is classified under the acquisition bucket and not kind of a consistent run rate expense.
So backing that out and get to expenses in the quarter about $84 million and recognizing there could be some volume-related costs that increase as we get into the summer selling season, but is this a good run rate to build off heading into 2016?
We look to the base expenses in the chart provided to start to think about our run rate. The volume-related expenses tend to be purely pass-through or largely pass-through where we collect, for instance, loan officer commissions and then we pay it out to loan officers. So that tends to be something that is a pass-through expense and very volume-related.
As you can see from the fourth quarter, that expense was down significantly given that our volume-based originations within our mortgage banking group were off compared to, for instance, the second quarter which was about $4.5 million higher. So the $67.9 million number is a base number that starts to be something that you can track as a base expense from non-volume businesses.
Just, Andrew, following up, I would also note that, as discussed previously, when performance outpaces our budget, many of our employee bonus programs will see higher than average payout because it’s profitability based. And so that is also embedded in part in the $67.9 million number.
[Operator Instructions] As we have no further questions, this concludes our question-and-answer session. I would like to turn the conference back over to Steve Sugarman for any closing remarks.
Thank you everyone for joining our fourth quarter and year-end earnings presentation. We look forward to providing you an update on our business after the completion of the first quarter.
The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.
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